© 2025 by Michael Firth KC, Gray's Inn Tax Chambers
Contact: michael.firth@taxbar.com
Legal effects of documents
GENERAL PRINCIPLES
- Normally the transactions entered into by contracting parties must be respected and given full effect
"[44] I would accept the submission on behalf of Mr Underwood that a central feature of the capital gains regime is that transactions entered into by contracting parties must be respected and given full effect. If the question is raised what method has been adopted, and the transaction is in writing, the answer must be found in the true construction of the document or documents read in the light of all the relevant circumstances. If the terms of the document are clear, that is the end of the question. If however, there is any doubt or ambiguity upon the language used read in its proper context, it may be possible to resolve that doubt or ambiguity by reference to the inherent probabilities of businessmen entering into the transaction in one form rather than another: Spectros International plc v Madden [1997] STC 114, 138." (Underwood v. HMRC [2008] EWCA Civ 1423, Collins, Neuberger, Goldring LJJ)
- Parties may agree not to perform original contract but, instead, to substitute performance
"[52] It is true that the 1994 Contract must have proceeded on the basis that Rackham Ltd had an interest in the Property capable of constituting the subject matter of the 1994 Contract. But there was at that time no disposal to Rackham Ltd because Rackham Ltd obtained nothing additional to the rights which it acquired on the making of the 1993 and 1994 Contracts. It is unrealistic and contrary to the facts to conclude that there were two events, one by which Mr Underwood disposed of the Property to Rackham Ltd and another by which Rackham Ltd disposed of the Property to Mr Underwood. The netting off was the only "performance" of those contracts. There was no other performance at all, and the netting off was accepted by the parties in substitution for the performance required by the contracts. To the extent that Rackham Ltd turned an asset to account, the asset was its contractual rights under the 1993 Contract to acquire the Property, and not its beneficial interest in the Property." (Underwood v. HMRC [2008] EWCA Civ 1423, Collins, Neuberger, Goldring LJJ - contracts to sell to B and repurchase from B were never performed)
- Parties proceedings under a misapprehension as to ownership does not justify implying a complicated transaction not contemplated
"In my judgment that argument is wholly unrealistic and unsustainable for a number of reasons. I need only mention two. First, the documentation to which we were referred discloses no shred of an intention to enter into such a sale and lease back transaction. Although the parties were plainly proceeding on the basis that at the time of the completion of the schedule the equipment was owned by the taxpayer company, that provides no basis for implying a complicated legal transaction of a kind not contemplated by the parties. The reality of the matter is that the parties were proceeding under a misapprehension as to the ownership of the equipment. Despite such misapprehension, as between the local authority and the taxpayer company the contract is entirely effective to carry out the parties' intentions because clause 3.10 would estop the local authority from denying the taxpayer company's ownership of the equipment if and when it is severed from the land. Second, I am quite unable to define what is the subject matter of the alleged sale. Is it the equipment alone? If so, who owns the airspace occupied by the equipment while it remains fixed? If it is the equipment and the airspace occupied by it, who owns the airspace formerly occupied by it when, pursuant to the rights under the master lease, the equipment is removed? In my judgment the argument is wholly untenable." (Melluish v. BMI [1996] AC 454 at 474, Lord Browne-Wilkinson)
- Chain of contracts performed by single transfer of legal title: multiple disposals
"[67] I also accept that, where an asset is the subject of an initial contract and a sub-contract, and, on completion of the two contracts, the buyer directs the seller to transfer direct to the sub-buyer, there are two disposals, one under each contract. However, that is because it can fairly be said that the asset is disposed of under each contract, albeit that the mechanics of the transaction involve an acceleration, or conflation, of the two disposals. The essential point is that, on completion, as between the buyer and seller, the asset is "disposed of and acquired under the [initial] contract" (and, indeed, under the sub-contract) whereas that cannot be said about the Property under the 1993 contract (or, indeed, under the 1994 contract). An important difference between the sub-sale case and this case is that, here, the contractual arrangements between Mr Underwood and Rackham Ltd formed no part of the contractual chain, or what one might call the chain of equitable title, between the initial seller of the Property (Mr Underwood) and its ultimate buyer (Brickfields). Thus, Rackham Ltd, unlike the buyer/sub-seller in the sub-sale case, was not in a position to direct the sale of the Property to Brickfields (or, thus, to turn the Property to account)." (Underwood v. HMRC [2008] EWCA Civ 1423, Collins, Neuberger, Goldring LJJ)
- Ordinarily express terms not overridden except by fraud, mistake or sham
"[218] Pankhania was a case involving joint ownership of property. The claimant sought an order for sale of a residential property registered in the joint names of himself and his aunt. The transfer to them contained an express declaration of trust to the effect that they were tenants in common in equal shares. The aunt claimed that there was a family understanding that she was to be the sole beneficial owner, and that the claimant was included as a joint purchaser only so that his salary could be taken into account for mortgage purposes. The Court of Appeal held that the existence of the express trust precluded any finding that there was a constructive trust of the kind discussed in Stack v Dowden [2007] UKHL 17. Patten LJ referred at [17] to the possibility of a declaration of trust being set aside for fraud, mistake or undue influence, but said that nothing of that kind had been alleged. There was no evidence that the express trust was inserted by mistake or that the parties intended to execute a transfer in different terms.
[219] Patten LJ also considered the concept of sham as described in Snook, saying “what is, I think, clear is that it must be shown both that the parties to the trust deed…never intended to create a trust and that they did intend to give that false impression to third parties or to the court”. In this case there was no deception, and the fact that the parties and their family subjectively intended something different was not sufficient to prevent the express trust taking effect simply on the basis that it did not accurately record what they intended to achieve ([22]). Mummery LJ agreed that there was no room for inserting a constructive trust in the absence of a vitiating factor such as fraud or mistake ([27]).
[220] We disagree with [HMRC] that Pankhania has no relevance because it concerns whether there was a trust rather than what its terms were: there was clearly a trust on both parties’ cases. In our view Pankhania illustrates the point made in Autoclenz that subjective intentions are not determinative, and that ordinarily the express terms of a document, whether a contract or a trust, are not to be overridden except in certain circumstances, in particular fraud, mistake or sham." (Landid Property Limited v. HMRC [2017] UKFTT 692 (TC), Judge Falk)
- Fact that borrower controls lender not sufficient to alter the character of a loan
"[98] In contrast, the Loan in this case was a genuine one. There was no finding that it was advanced on the understanding that it would not be required to be repaid. Mr Waldegrave's submission that Mr Currell had practical control of whether repayment was required is not made out on the facts, and would in any event be insufficient as a matter of law. On the facts, the loan was made by the Trustee, an independent entity. Even if the Trustee had been entirely reactive to the Company (a finding that the FTT made only in relation to the award of employee bonuses: see its decision at [15(34)] and [16(9)]), Mr Currell did not have sole control of the Company. Further, there is in any event no authority for the proposition that the fact that the borrower controls the lender is sufficient to alter the legal character of a loan. It is not. I would add that, were it otherwise, the legal status of the entirely commonplace transaction of a loan to a parent company could be called into question." (HMRC v. MR Currell Limited [2026] EWCA Civ 445, Falk, Singh, Foxton LJJ)
- Trust discretion real even if not presently intended to be used
"[229] In response to a question from the Tribunal, [HMRC] accepted that in order to determine that there was a bare trust the witnesses would need to have believed that the discretions apparently conferred on the Trustee did not actually exist. But we have accepted the evidence of the witnesses that they understood that the Trustee had discretion as a matter of law, even if in practice their expectations were that those discretions would be exercised in a particular way. Similarly, in the case of the loans the parties would need to have believed that the provision purporting to allow the Trustee to require repayment was not effective and could not be enforced. Again, we have accepted the evidence of the witnesses that they did understand that repayment could be required, even though in practice there was no present intention to call in the loans. We agree with Mr Ewart that in the circumstances of this case it is hard to see how Mr Vallat’s submission could succeed in the absence of dishonesty." (Landid Property Limited v. HMRC [2017] UKFTT 692 (TC), Judge Falk)
- Not to ignore contractual terms simply on the basis they were inserted to avoid statutory consequence
"[230] As already discussed, Lord Templeman in Antoniades and Arden LJ in Bankway relied on a different approach in reaching their conclusions, namely that the relevant provisions amounted to an attempt to contract out of a mandatory statutory scheme. Arden LJ referred at [43] to a number of other examples in different contexts, but concluded that the key question was what was the “substance and reality” of the transaction. [HMRC] submitted that the same principle applied to tax legislation: the parties could not avoid the tax consequences of their arrangements by inserting terms which were intended to avoid statutory consequences and which they did not seriously intend to have effect.
[231] We do not agree. [HMRC] was unable to refer us to any case where this approach has been applied to tax legislation. If it was correct then it is highly surprising that it has never been applied in any of the many tax avoidance cases that the tribunals and courts have decided in recent years. In principle, it is clearly possible for taxpayers to arrange their affairs so that they enter into transactions that give rise to less tax than other transactions they might have entered into, and in that sense it is incorrect to say that taxpayers may not “contract out” of tax legislation. Clearly tax legislation will be interpreted purposively, and as is well known a realistic view of the facts must be taken to see whether the particular statutory provisions in question apply. But this is what is generally referred to as the Ramsay approach. Importantly, and in the absence of sham, that approach respects the general legal effects of the transactions that the parties have entered into, even in circumstances where it is concluded on a purposive interpretation that the particular tax advantage sought by the taxpayer is not available." (Landid Property Limited v. HMRC [2017] UKFTT 692 (TC), Judge Falk)
- Off the shelf contract not reflecting real intention
"[8]...Mr McMaster's explanation was that the appellant had bought a standard form of conditions of employment from its local Chamber of Commerce, and had adopted it without, as he acknowledged, considering whether it was entirely appropriate for the appellant's needs. I accept that evidence; the document has the hallmarks of a general-purpose agreement whose user is intended to select only one of the alternatives provided to cater for different matters (a course which the appellant has sometimes failed to adopt, those clauses which I have set out being a pertinent example). It contains other clauses of doubtful, if any, relevance to the appellant's business and I am satisfied that the appellant did adopt the document uncritically. I also accept Mr McMaster's evidence that he had attempted to effect business-only insurance cover but that the hire company had insisted that all risks were covered, even if private use was prohibited.
...
[13] Although this is a case which illustrates the dangers of using standard-form documents without adequate scrutiny, I am satisfied that the apparent terms of employment do not reflect the reality, and that, as Mr McMaster told me, the appellant has, and applies, a policy of prohibiting private use of the cars. I accept that the appellant's intention, throughout, has always been that the cars should be used exclusively for its business purposes and that it has done everything it reasonably can to limit their use accordingly. Private use of the cars by the guards is, I have concluded, quite inconsistent with the manner in which the business is conducted..." (Masterguard Security Services Limited (2004) VATD18531, Judge Bishopp)
Construe contract against relevant background
- Identifying what consideration is paid for may depend on context
"[117] Both parties referred to the Upper Tribunal decision in Sjumarken v HMRC [2017] STC 239 (“Sjumarken”). Both relied on paragraph 38 where Judges Berner and Falk (as she then was), having reviewed the authorities, found that it is clear that the question of what constitutes consideration, and what consideration is given for, depends “on the correct construction of the relevant agreement”.
[118] [The taxpayer] also relied on Sjumarken because at paragraphs 38 and 39 Aberdeen Construction Group Limited v IRC [1978] STC 127 (“ACG”) was described as the leading case and [the taxpayer] argues that it bears a close analogy with this case. Judges Berner and Falk explained that in ACG shares had been sold for £250,000 but subject to conditions. The most important of those conditions required the seller to waive a loan of £500,000. The House of Lords concluded that the shares had little value without the waiver so the price paid was for both the shares and for the waiver of the loan. That conclusion was reached by interpreting the contract “as any contract must be, against its background”.
[119] Judges Berner and Falk went on to cite with approval Lightman J at page 136 in Spectros International plc v Madden [1997] STC 114 (“Spectros”) where he said, under the heading “Principle”, that:-
“What is the relevant consideration may depend upon the terms and form of the transaction adopted by the parties. The parties to a proposed transaction frequently can achieve the same practical and economic result by different methods…. The law respects the freedom of the parties to a transaction to frame and formulate their agreement as they wish and to suit their own legitimate interests (taxation and otherwise) and, so long as the form adopted is genuine, and not a sham, honest, and not a fraud on someone else, and does not contravene some established principle of public policy, the court will give effect to the method adopted. But as a corollary to this freedom, where the parties have chosen one method, it is not open to them to invite the court to treat as adopted some other method because it is more advantageous to them, because it leads to the same practical and economic result and because it is the more obvious and sensible method to have adopted. If the question is raised what method has been adopted and the transaction is in writing, the answer must be found in the true construction of the document or documents read in the light of all the relevant circumstances. If the terms of the documents are clear, that is the end of the question. If however there is any doubt or ambiguity upon the language used read in its proper context, it may be possible to resolve that doubt or ambiguity by reference to the inherent probabilities of businessmen entering into the transaction in one form rather than another.”
[120] At paragraphs 41 and 42, they pointed out that that quotation had been cited with approval by Henderson J in Revenue and Customs Commissioners v Collins [2009] STC 1077 who had also referred to Lightman J’s summary of principles derived from ACG which included that:-“… any written contract must be read as a whole construed in the light of all relevant circumstances which include the value of the assets disposed of and business sense”.
[121] I have added emphasis because in his Skeleton Argument Mr Sykes had correctly pointed out that Chartbook Ltd v Persimmon Homes Ltd [2009] 1 AC 1101 is often cited as authority for the proposition that pre-contractual negotiations should not be taken into account for the purposes of contractual construction. He relied on Lord Hoffmann at paragraph 42 where he said:-
“42. The rule excludes evidence of what was said or done during the course of negotiating the agreement for the purpose of drawing inferences about what the contract meant. It does not exclude the use of such evidence for other purposes: for example, to establish that a fact which may be relevant as background was known to the parties, or to support a claim for rectification or estoppel. These are not exceptions to the rule. They operate outside it.”
[122] He then went on to argue about that in the context of valuation but I am not concerned with that in this decision. The point I make is that when I consider the history, the Terms, the emails, the draft SPAs and the Open Issues I am doing so in order to consider all relevant circumstances." (Moore v. HMRC [2023] UKFTT 399 (TC), Judge Scott)
LEGAL LIMITS ON EFFECTS
- Contractual provisions cannot stop chattel becoming part of the land
"Unfortunately, the decision in Hobson v. Gorringe [1897] 1 Ch. 182 was not cited to Buckley J. That case (which was approved by this House in Reynolds v. Ashby & Son [1904] A.C. 466) demonstrates that the intention of the parties as to the ownership of the chattel fixed to the land is only material so far as such intention can be presumed from the degree and object of the annexation. The terms expressly or implicitly agreed between the fixer of the chattel and the owner of the land cannot affect the determination of the question whether, in law, the chattel has become a fixture and therefore in law belongs to the owner of the soil: see pp. 192-193. The terms of such agreement will regulate the contractual rights to sever the chattel from the land as between the parties to that contract and, where an equitable right is conferred by the contract, as against certain third parties. But such agreement cannot prevent the chattel, once fixed, becoming in law part of the land and as such owned by the owner of the land so long as it remains fixed. To the extent that Simmons v. Midford decides otherwise it was wrongly decided." (Melluish v. BMI [1996] AC 454 at 473, Lord Browne-Wilkinson)
MISLABELLING
- Creditor who receives participation in profits instead of repayment of loan is not a creditor
"This analysis ignores the fact that by reason of the non-recourse provision of the loan agreement, the loan was not repayable by Victory Partnership or any one else. A creditor who receives a participation in profits in addition to repayment of his loan is of course a creditor. But a creditor who receives a participation in profits instead of repayment of his "loan" is not a creditor. The language of the document in the latter case does not accurately describe the true legal effect of the transaction which is a capital investment by the "creditor" in return for a participation in profits." (Ensign Tankers (Leasing) Ltd v. Stokes [1992] 1 AC 655)
SHAM
Test
- Documents do not reflect the arrangement the parties intended to be bound by
"[68] In these circumstances, I have reached the conclusion that neither of the agreements was a sham. Each of them was an artificial transaction, and the points relied on by Miss Middleton serve to emphasise the extent of the artificiality. Both principle and the authorities indicate that the court is slow to find that an agreement is a sham, and that, before the court can reach such a conclusion, it must be satisfied that the purported agreement is no more than a piece of paper which the parties have signed with no intention of its having any effect, save that of deceiving a third party and/or the court into believing that the purported agreement is genuine. Taking all the evidence together, I think that the Bank has plainly fallen short of discharging the onus, which it undoubtedly has, of establishing that either of the agreements was a sham." (National Westminster Bank Plc v. Jones [2000] EWHC 1565 (Ch), Neuberger J)
"[201] In our view the sham principle, as explained in Snook, Hitch v Stone and now Brain Disorders, has no application in this case. The principle requires a common intention to create different rights and obligations from those set out in the documents, and an intention to give a false impression to third parties. We have found that the parties did not intend to create different legal rights or obligations, and did not intend to give a false impression. Our overall assessment of the evidence is that the relevant parties understood and intended that the trusts were discretionary trusts, and that the loan agreements documented loans which could be required to be repaid. The situation in this case is very different from that considered in Brain Disorders, where what was being disregarded as a sham was a provision which neither party intended to operate and which had been inserted to give an incorrect impression of the nature of the arrangements. We agree with Mr Ewart that in this case the parties purported to, and did, operate the terms of the discretionary trusts that HMRC seeks to strike down, and that loans were in fact made under the terms of the written loan agreements, which included provision under which repayment could be required by the Trustee." (Landid Property Limited v. HMRC [2017] UKFTT 692 (TC), Judge Falk)
- The sham transaction is non-existent
"[95] A “sham” in English law consists in the combination of two separate things, both of which must occur. First, a (genuine) transaction happens, whether by words or acts. Or sometimes indeed nothing happens. Second, a different transaction from the first (or, if nothing happened, then something different from nothing) is said or at least implied to have taken place. The “sham” is not what actually happened (or did not happen) but what is said or implied to have happened. Essentially, it is a misdescription of the real position, rather than an actual thing. Usually (but not always) there is a document which purports to embody or at least prove the second (non-existent) transaction. The sham is the pretence that a transaction different from the real one has taken place. The “sham” is therefore the words or acts or or the document misdescribing the events, rather than the transaction itself. Despite the loose language of lawyers, judges and commentators, there are no sham contracts, conveyances, or trusts, but only sham acts or documents purporting to amount to or at least evidence such contracts, conveyances, or trusts. The first transaction (or nontransaction) happened (or did not happen). The second, pretend transaction did not. Subject to problems created by registration statutes and so-called “statutory magic” (mentioned below), the pretend transaction is void of legal effect." (Taylor v. Savik [2024] EWCC 7, HHJ Matthews)
- Strong presumption parties intended to be bound by agreements entered into
"[81] What is essential for a finding of sham is that the parties (not just one of them) subjectively intended that the documents signed were not to create the legal rights and obligations that they appear to do. As Fordham J explained in Isle Investments Ltd v Leeds City Council [2021] EWHC 345 (Admin), after reviewing the authorities, although the Court is astute to detect shams it starts with the presumption that parties to a written agreement, even an artificial one, intend to be bound by its terms." (Elias v. Mamistvalov [2022] EWHC 1930 (Ch), Fancourt J)
"[59] In one sense, lawyers find it difficult to grapple with the concept of sham, presumably on the basis that, subject to questions of mistake (which can give rise to rectification or rescission), there is a very strong presumption indeed that parties intend to be bound by the provisions of agreements into which they enter, and, even more, intend the agreements they enter into to take effect. The difficulty is perhaps illustrated by the way in which Diplock LJ expressed himself in Snook ("what (if any) legal concept is involved" and "if it has any meaning in law") and the fact that Lord Templeman found it necessary to reformulate the concept in AG Securities (where at 462H, having referred to his formulation of "sham devices and artificial transactions" in an earlier case, he said it would have been better if he had used the word "pretences"). A sham provision or agreement is simply a provision or agreement which the parties do not really intend to be effective, but have merely entered into for the purpose of leading the court or a third party to believe that it is to be effective. Because a finding of sham carries with it a finding of dishonesty, because innocent third parties may often rely upon the genuineness of a provision or an agreement, and because the court places great weight on the existence and provisions of a formally signed document, there is a strong and natural presumption against holding a provision or a document a sham. The fact that a document creates a tenancy, which is an estate in land, does not make it inherently more difficult to conclude that it is a sham: if the contract itself is a sham, then no tenancy can be created by it. However, a tenancy is a document which is particularly likely to be relied on by third parties (e.g. mortgagees and sub-tenants) which explains the court's reluctance to hold a tenancy to be a sham (see the observations of Sir Thomas Bingham in Belvedere [1997] QB 858 cited above)." (National Westminster Bank Plc v. Jones [2000] EWHC 1565 (Ch), Neuberger J)
- All parties must have a common intention that the acts/documents do not create the legal rights/obligations they appear to create
""It is I think necessary to consider what (if any) legal concept is involved in the use of this popular and pejorative word. I apprehend that if it has any meaning in law, it means acts done or documents executed by the parties to the sham which are intended by them to give to third parties or to the court the appearance of creating between the parties legal rights and obligations different from the actual legal rights and obligations (if any) which the parties intended to create. But one thing, I think is clear, in legal principle, morality and the authorities... for acts or documents to be a "sham", with whatever legal consequences follow from this, all the parties thereto must have a common intention that the acts or documents are not to create the legal rights and obligations which they give the appearance of creating." (Snook v. West Riding Investments Limited [1967] 2 QB 766 at 802, Diplock LJ)
- Subsequent conduct admissible to prove sham
"[11] As Arden LJ explained: "in the case of a document, the court is not restricted to examining the four corners of the document. It may examine external evidence. This will include the parties' explanations and circumstantial evidence, such as evidence of the subsequent conduct of the parties" (Hitch at §65). This enquiry ("External Evidence Enquiry") is "perfectly proper" (Jones at §42). So, "the court must pay attention to the facts and surrounding circumstances and to what people do as well as what people say" (Lord Templeman in Antoniades at 464A); and "it is permissible to have regard not only to matters predating the conclusion of the agreement but also to how the arrangements were operated in practice afterwards" (Camelot at §19(5)). It can be relevant to have in mind that conduct consistent with the ANR "could have been undertaken in order to make a sham transaction look more convincing" (Jones at §58). The factual enquiry can include questions of practical reality: in Antoniades Lord Templeman explained (at 463E) that "[t]he facilities in the flat were not suitable for sharing between strangers", a point also recorded by Lord Oliver (at 469C-D) by reference to "the physical lay-out and size of the premises"." (Isle Investments Limited v. Leeds CC [2021] EWHC 345 (Admin), Fordham J)
- Artificiality not sufficient, but would be very unusual for non-artificial transaction to be sham
"[39] Accordingly, while the palpable, and freely admitted artificiality of the agreements in the present case cannot be doubted, it certainly does not follow that, as a result, the agreements must be shams. However, in my judgment, that fact that a particular transaction is palpably artificial is a factor which can properly be taken into account when deciding whether it is a sham. Indeed, it would seem to me to require very unusual circumstances before the court held that a transaction which was not artificial was in fact a sham. I add this. If the court were to conclude that a transaction was artificial, in circumstances where the party relying on it was contending that it was not artificial, then that might be a further reason (although certainly not a conclusive reason) for deciding that the transaction was a sham, given that a sham transaction involves a degree of dishonesty on the part of the parties involved. That is not the position here." (National Westminster Bank Plc v. Jones [2000] EWHC 1565 (Ch), Neuberger J)
Sham v. mislabelling
- Not understanding transaction is not sufficient to find sham: many people enter into complex agreements without appreciating the terms and effect
"[39] Mr Jourdan contends that laymen, particularly relatively unsophisticated laymen, often form companies and enter into agreements which their advisers recommend, without appreciating the details, or even often the nature or terms of those of the agreements. An obvious example is where parties enter into a complex series of agreements in order to avoid tax; subject to the principles laid down in cases such as Ramsay, the mere fact that the parties concerned may not understand the nature of the agreements they have entered into, and may not understand what rights and obligations those agreements give rise to, does not make the agreement shams. I agree with that contention, at least to this extent: in such a case, it can be said that, even though they do not know the effect of the agreements they have entered into, and may now know what rights and obligations arise as a result of such agreements, the parties are intending to enter into them and intending to be bound by them, in the sense that they are trusting their advisers. The transactions are genuine, because the parties are proceeding on the basis that, to the extent that they do not appreciate the effect of the arrangements they are entering into, they are happy to trust their advisers. Indeed, experience suggests that many reasonably sophisticated persons enter into complex agreements (such as commercial leases) without appreciating the terms and effect, or indeed even the existence, of many comparatively important provisions in the agreement. They are prepared to trust their advisers." (National Westminster Bank Plc v. Jones [2000] EWHC 1565 (Ch), Neuberger J)
- True effect to be identified
"[67] [HMRC counsel] submits that it was never part of HMRC's case that the Sale Agreement is a sham. But Mr Davey submits that there has been "mislabelling" of the Loan Agreement and the Sale Agreement, and [HMRC] referred me to the decision of the House of Lords in AG Securities v Vaughan and others; Antoniades v Villiers and another [1990] 1 AC 417...
...
[71] I agree with [HMRC's] submissions that the Loan Agreement and the Sale Agreement have been mislabelled. There is an air of unreality about them read as separate agreements in the light of all the circumstances. I find that the true effect of the Sale Agreement and the Loan Agreement (when read together, and having taken account of the true intentions and actions of the parties), was that Mr Herbert agreed to sell the House to the Trustees, with completion to occur (and the consideration to be paid) on notice following his death.
[72] The true effect of the subsequent Deed of Assignment was that Mr Herbert gifted to his three children his benefit under the composite sale and loan agreement (namely the right of his estate to be paid the consideration on completion after his death)." (Shelford v. Revenue [2020] UKFTT 53 (TC), Judge Aleksander)
Dishonesty
- Mislabelling: calling a document one thing, but the rights/obligations it creates are those of a different type of transaction
"[101] First, a person may put forward a document believing, or at least hoping, that it accurately states the transaction intended to take place. For example, a person may execute a document stating that it is an inter vivos gift, although it is subsequently held by the court to amount to a will: Cook v Cocke (1866) LR 1 P&D 241, 243. Or an owner of a residential property may consider that the arrangement he has proposed (in writing) to an intended occupier of the property is a licence, rather than a tenancy. The document accordingly refers to a "licence". But the court later holds it to be a tenancy: Street v Mountford [1985] AC 809, HL. Here the allegation of sham merely means that the document (or other act) does not accurately record the substance of the transaction. The proponent of the act may have intended the legal result, but has not achieved it. The court looks to the substance of the transaction, and not to the form, or label: A v A and St George Trustees Ltd [2007] EWHC 99 (Fam). [15](i)." (Taylor v. Savik [2024] EWCC 7, HHJ Matthews)
"[59]...Mr Davey however said that the fact that HMRC accepted that the documents were not shams did not mean that the legal rights and obligations arising from the documents were the same as the actual rights and obligations that the parties expressed them to create. He drew a distinction between the doctrine of sham and the doctrine of mislabelling. Thus for example a document which purports to grant a licence to a person to occupy land may be a sham if the parties intended the document to be a pretence, concealing the true transaction between the parties. However even if a document is not a sham in that sense, it is commonplace that the labels which the parties use in their contract are not determinative of the true legal effect of what they have done: see the well-known example given by Lord Templeman in Street v Mountford [1985] AC 809 of the fivepronged implement for digging, which is a fork even if the manufacturer insists that he intended to make and has made a spade; or the less well known but equally vivid example given by Bingham LJ in Antoniades v Villiers [1990] 1 AC 417 at 444B: “a cat does not become a dog because the parties have agreed to call it a dog.” I accept that the two doctrines, of sham and mislabelling, are different doctrines; and I also accept that in this case HMRC’s acceptance that the contractual documents entered into by the parties were not shams or pretences does not preclude them from contending that a statement in a contract that £x is paid in consideration of Y is not reflective of what the consideration truly was for which £x was paid." (Acornwood LLP v HMRC [2016] UKUT 361 (TCC), Nugee J)
- Sham not necessarily dishonest
"[120]...Ms Brown’s submission is that what Ms McCarthy put to Mr Northwood was that the documents were artificial, which is not the same as putting that it is a sham or dishonest, referring to Hitch v Stone (Inspector of Taxes) [2001] EWCA Civ 63 at [67] where Arden LJ said:
“the fact that the act or document is uncommercial, or even artificial, does not mean that it is a sham. A distinction is to be drawn between the situation where parties make an agreement which is unfavourable to one of them, or artificial, and a situation where they intend some other arrangement to bind them. In the former situation, they intend the agreement to take effect according to its tenor. In the latter situation, the agreement is not to bind their relationship.”
[121] Both parties referred to the decision in Hockin. With regard to the issue of sham in that case, the UT stated:
“24. We agree with Mr Prosser that the FTT's finding of sham is a finding of fact and that we may interfere with it only on Edwards v Bairstow grounds (see Edwards v Bairstow [1956] AC 14 itself and the long line of authority following it). We are, however, conscious that a finding of sham, even if it does not imply dishonesty in the ordinary sense, necessarily requires the fact-finding tribunal to be satisfied of an intention to deceive or, at least, to make things appear other than as they are. This is a point to which we shall need to return; for the moment we merely observe that, because of this consideration, we have examined the detail of the FTT's findings with particular care.
…
29. Mr Bremner is correct to say that the FTT did not make any finding of dishonesty; on the contrary, it described Mr Hardy, at [34], as "basically honest". We do not, however, and despite the note of caution we have sounded, consider that a finding of sham necessarily implies dishonesty. The pretence here was that 96 or 99 might have been spent on research, but the parties did not go further by pretending that it had in fact been spent on research. This was a tax avoidance, or deferral, scheme, and not evasion, and there was no attempt, as there would be in the case of evasion, to conceal what actually happened, however the parties chose to dress it up. One might disapprove of what was done; but we do not consider it could be said to have crossed the threshold into dishonesty.”
[122] Ms Brown expressed great difficulty with the distinction between an intention to deceive and an intention to make things appear other than as they are. Ms Brown’s submission is that what was alleged and found in Hockin was that the document was drafted with an intention to make things appear other than as they were, namely that one of two things might happen when it was really only possible that one thing might happen, which is far from what is being alleged in this case. Ms Brown submits that Hockin found there to be two sorts of sham, an intention to deceive, which must require dishonesty, or an intention to make things appear other than they are and that can be described as not requiring dishonesty in the ordinary sense. Ms Brown contends that HMRC's case is clearly one of dishonesty. It is not a case of half concealment, which was the case in Hockin. Ms Brown submits that HMRC make a number of statements as to what the alleged real purpose of Mr Northwood's arrangements were, such as that the whole thing was a work of fiction, the only purpose of the arrangements was tax avoidance, the only person who was intended to benefit was Mr Northwood, contrary to the appearances of various documents such as the trust deed, Mr Northwood retained control of the funds at all relevant times and that the funds were never subject to the trust, were never held or intended to be held by anyone in a fiduciary capacity and remained Mr Northwood's property and in his control. This therefore is not an allegation that Mr Northwood said “well, we might do this or we might do that” when Mr Northwood clearly only intended to do one thing. The allegation, Ms Brown submits, is that Mr Northwood created documents to give one appearance and then did something completely different. Ms Brown contends that is an allegation of dishonesty and it is not open to the Tribunal to make a finding of dishonesty, because those allegations of dishonesty have neither been properly pleaded nor properly put to Mr Northwood in cross-examination.
[123] I have considered Ms Brown’s arguments regarding pleading sham at [42] to [49] above. I do not accept Ms Brown’s submission that the way in which HMRC have put their case requires proof of dishonesty. It is clear that HMRC do not consider Mr Northwood to have been honest. However, in my view, this case falls within the category described in Hockin as a pretence that does not cross the threshold into dishonesty. My finding is that the RT documentation was dressed up to achieve a tax benefit but this was “not evasion, and there was no attempt, as there would be in the case of evasion, to conceal what actually happened, however the parties chose to dress it up”.
[124] I also do not agree that HMRC did not put the sham allegation to Mr Northwood in cross-examination. The questions put to Mr Northwood did not simply suggest the situation where parties made an agreement which was unfavourable to one of them, or artificial. The questions were put in the context of a situation where the parties intended some other arrangement. I therefore find that the allegations were put fairly and squarely to Mr Northwood and that he was given an opportunity to rebut them." (Northwood v. HMRC [2023] UKFTT 351 (TC), Judge Sukul)
- Sham does involve dishonesty
"[326] It is obviously a strong thing to find that there is a sham. It necessarily entails finding that both parties were dishonest because they created a pretence in order to deceive others, for example the court or other persons concerned to assess the legitimacy of the transaction or elements of it..." (PCP Capital Partners LLP v. Barclays Bank Plc [2021] EWHC 307 (Comm), Waksman J)
"[40] That a degree of dishonesty is involved in a sham is supported by what the Master of the Rolls said in the passage I have quoted, namely that "the parties [would be] doing one thing and saying another". It is also supported by the often cited definition of sham by Diplock LJ in Snook -v- West Riding Investments Limited [1967] 2 QB 766 at 802C-E:
"It is I think necessary to consider what (if any) legal concept is involved in the use of this popular and pejorative word. I apprehend that if it has any meaning in law, it means acts done or documents executed by the parties to the sham which are intended by them to give to third parties or to the court the appearance of creating between the parties legal rights and obligations different from the actual legal rights and obligations (if any) which the parties intended to create. But one thing, I think is clear, in legal principle, morality and the authorities... for acts or documents to be a "sham", with whatever legal consequences follow from this, all the parties thereto must have a common intention that the acts or documents are not to create the legal rights and obligations which they give the appearance of creating."" (National Westminster Bank Plc v. Jones [2000] EWHC 1565 (Ch), Neuberger J)
Examples
- Not a sham even though some obligations undischarged
"[74] Whilst we understand the Respondents’ scepticism in this regard, given the events which have occurred, we do not agree that the documents give rise to rights and obligations in law which differ from their terms.
[75] We have found as a fact that the parties did intend the scheme documents to have the effects which they purported to have. We say that notwithstanding the fact that there are various obligations under the scheme documents which still remain undischarged or the fact that the events which have occurred are inconsistent with those obligations. As we have already said, we do not attribute those matters to any intention on the part of the parties that the documents should not have the effects which they purported to have. Moreover, no allegation of sham has been made.
[76] As such, we have concluded that the true legal effect of the scheme documents was in accordance with their form and that they gave rise to the rights and obligations set out in them.
[77] For instance, we think that it is incorrect to say that the position in relation to ownership of the Property was unaffected by the execution of the Sale Agreement. Mrs Elborne’s executors, when they received the sale proceeds of the Property from Mr and Mrs Machin, did not hold the sale proceeds for the Children as beneficiaries under the will. Instead, for reasons which we will rehearse in the section of this decision which follows, we believe that the sale proceeds, when they were received, were impressed with a constructive trust and held by the executors for the trustees of the Life Settlement. The Sale Agreement therefore had a meaningful and lasting legal effect." (Executors of Elborne v. HMRC [2023] UKFTT 626 (TC), Judge Beare)
- Would be exceptional for a one man company carrying on a genuine business to be a sham
"[34] We cannot leave Lee's case without a comment on Lord Morris's observation that it had not been, nor could be, suggested that "the company was a sham or a mere simulacrum" (our emphasis), an observation that has been discussed in the later authorities to which we shall come. It is a difficult expression because a registered company has legal personality. However, we consider that Lord Morris was probably there using the words "sham" and "mere simulacrum" as synonyms for essentially the same idea and had in mind the limited types of case in which an individual (as in Lee's case) owns all the shares in a company and the courts have considered it right for policy reasons to "pierce the veil" of incorporation and treat the company as the alter ego of the controlling shareholder, that is to treat them as one. In such a case, any suggestion that the individual had a service contract with the company would not succeed.
[35] It appears to us that such circumstances, at least in a case in which the company is a genuine trading company, would be exceptional. No such question arises in these appeals, nor did it arise in the authorities to which we were referred. We propose therefore to say no more about it..." (Secretary of State for Business v. Neufeld [2009] EWCA Civ 280, Rimer, Rix, Toulson LJJ)
- Careful scrutiny of whether employment contract with sole director/shareholder is a sham
"[35]...On the other hand, as Bottrill in this court makes clear, a preliminary question which may more commonly arise in a case in which a controlling shareholder claims to have a service contract with his own company will be whether the putative contract (rather than the company) is genuine or a sham. That is because the reality in such cases is that the controlling shareholder will have been the directing mind and will behind the purported creation of his own contract. That factor will be likely in many cases to require a careful scrutiny of the claim that a valid employment contract has been created.
...
[37] In most cases in which there arises a question as to whether the claimed employment contract is a sham, there will be what purports to be a formal written contract, or at least a board minute or memorandum purporting to evidence or record the contract: a "shammer" is hardly likely to rest his case on the claim that his contract was an oral one. An inquiry into whether any purported contract does amount to a sham does not limit the court or tribunal to a consideration of the evidence as at the time of its making. It will usually also be highly material to see what the company on the one hand and the shareholder/director on the other have actually done under the purported contract: that will be likely to shed light on its genuineness or otherwise. In principle, however, a similar problem could arise where the alleged employment contract is an oral one, for it might be said in response that the basis on which such a contract is alleged is a mere pretence and is false. This court has recently considered the concept of a sham in an employment law context: Protectacoat Firthglow Ltd v. Miklos Szilagyi [2009] EWCA Civ 98." (Secretary of State for Business v. Neufeld [2009] EWCA Civ 280, Rimer, Rix, Toulson LJJ)
- Board resolution of sole director company restricting sole director from private use of vehicle accepted as restriction on such use
"[9] The tribunal heard evidence from Mr Phillips, whom it accepted as a witness of truth. It found that the car was purchased for business use and also that the company and Mr Phillips intended to be bound by the board resolution (decision paras 10 and 11).
...
[40] In the present case the prohibition was backed up by the terms of Mr Phillips' employment and in addition the arrangements as to the location of the keys. The tribunal accepted Mr Phillips' evidence that he intended to be bound by the terms of the board resolution prohibiting from using the car for private use. There is no doubt that a company can enter into a binding employment contract with its sole director, even where that director is also the controlling shareholder: see Lee v Lee's Air Farming Ltd [1961] AC 12, a decision of the Privy Council. Mr Paines contends that the restrictions are worthless in this case because they can be revoked at any time by Mr Phillips and would be automatically revoked if he were to use the car for private purposes. The first part of that submission is not open to Mr Paines in the light of the tribunal's findings to which I have referred. As to the latter part of that submission, the question whether the restrictions are revoked would depend on what should be inferred to be the intention of the company in that situation. It would not necessarily follow that the intention of the company would be to lift the restrictions rather than to enforce any remedy for breach." (CEC v. Elm Milk Limited [2006] EWCA Civ 164, Arden LJ)
- Board resolution of sole director company restricting sole director which was not intended to be acted upon would be ignored
"[23] If the tribunal had found that the resolution was never intended to be acted upon, but was merely a piece of window dressing aimed at Customs and Excise, the tribunal would no doubt have dismissed the appeal. A further appeal from a decision of that sort by Elm Milk to this Court would have had little chance of success. But in my judgment the same is true in reverse where, as happened in this case, the tribunal found that the resolution was genuine and was properly to be taken into account in determining the value added tax effects of Elm Milk's acquisition of the car. I set out my own analysis and views in more detail in the following paragraphs." (CEC v. Elm Milk Ltd [2005] EWHC 366 (Ch), Park J, approved CEC v. Elm Milk Limited [2006] EWCA Civ 164, §34, Arden LJ)
- Close scrutiny of whether contractual condition between family company and director who is member of family
"[31] Hitherto in the foregoing discussion I have tended to concentrate on a hypothetical case of an employer and an employee with no other connection between them. Does it make any difference if the employer is a small family company and the employee is both a member of the family and the sole director of the company? Those are, of course, the actual facts of this case. In my judgment, that does not affect the principle of the matter. If, as I believe, a genuine contractual stipulation against private use of a company car can overcome the obstacle of art 7(2G)(b) as between an employer and an otherwise unconnected employee, then it can equally overcome the obstacle of the paragraph as between a family company and a director who is a member of the family.
[32] I certainly accept that, in that latter situation, the facts may require close scrutiny to ascertain whether the contractual stipulation is genuine. However, in this case they received close scrutiny..." (CEC v. Elm Milk Ltd [2005] EWHC 366 (Ch), Park J, approved CEC v. Elm Milk Limited [2006] EWCA Civ 164, §34, Arden LJ)
- Condition imposed by director of family company precisely in order to satisfy tax test found to be genuine and effective
"[11] These findings are, we recognize, based on a board resolution made by Mr Phillips in relation to his own activities. We also recognize that Elm Milk is a company controlled by Mr Phillips' family. And we recognize that the resolution would not have been made in the absence of Article 7 of the 1992 Order. We have however had the opportunity of hearing evidence from Mr Phillips and considering his replies in the course of cross-examination. Our conclusion is that Elm Milk and Mr Phillips intended to be bound by the terms of the Resolution. Both parties well understood that the condition they had to adhere to, to enable input tax relief to be obtained, was that the Mercedes motor car was not to be made available by Elm Milk for the private use of anyone. By making that resolution Elm Milk was committed and Mr Phillips was committed, both in good faith, to a course of conduct that precluded Elm Milk from making the motor car available to Mr Phillips for private use and Mr Phillips from using it for private use. Mr Phillips, we are satisfied, became contractually bound to Elm Milk by reason of that resolution not to use the Mercedes motor car for private use." (Elm Milk Limited v. CCE [2004] UK V18592, Judge Oliver QC quoted and relied in CEC v. Elm Milk Ltd [2005] EWHC 366 (Ch), §33, Park J, in turn approved CEC v. Elm Milk Limited [2006] EWCA Civ 164, §34, Arden LJ)
PRETENCE
- Provision introduced into the agreement for no other purpose that to disguise the true character
"As to the nature of those rights and obligations, the provisions of the joint agreement purporting to retain the right in the respondent to share the occupation of the flat with the young couple himself or to introduce an indefinite number of third parties to do so could be seen, in all the relevant circumstances, to be repugnant to the true purpose of the agreement. No one could have supposed that those provisions were ever intended to be acted on. They were introduced into the agreement for no other purpose than as an attempt to disguise the true character of the agreement which it was hoped would deceive the court and prevent the appellants enjoying the protection of the Rent Acts. As your Lordships all agree, the attempt fails." (Antoniades v Villers [1990] 1 AC 417 at 454, Lord Bridge)
"In Street v. Mountford [1985] A.C. 809, 825, I said:
"Although the Rent Acts must not be allowed to alter or influence the construction of an agreement, the court should, in my opinion, be astute to detect and frustrate sham devices and artificial transactions whose only object is to disguise the grant of a tenancy and to evade the Rent Acts."
It would have been more accurate and less liable to give rise to misunderstandings if I had substituted the word "pretence" for the references to "sham devices" and "artificial transactions."
...
The fact that clause 16 was a pretence appears from its terms and from the negotiations. Clause 16 in terms conferred on Mr. Antoniades and other persons the right to share the bedroom occupied by Mr. Villiers and Miss Bridger. Clause 16 conferred power on Mr. Antoniades to convert the sitting-room occupied by Mr. Villiers and Miss Bridger into a bedroom which could be jointly occupied by Mr. Villiers, Miss Bridger, Mr. Antoniades and any person or persons nominated by Mr. Antoniades. The facilities in the flat were not suitable for sharing between strangers. The flat, situated in an attic with a sloping roof, was too small for sharing between strangers. If clause 16 had been genuine there would have been some discussion between Mr. Antoniades, Mr. Villiers and Miss Bridger as to how clause 16 might be operated in practice and in whose favour it was likely to be operated. The addendum imposed on Mr. Villiers and Miss Bridger sought to add plausibility to the pretence of sharing by forfeiting the right of Mr. Villiers and Miss Bridger to continue to occupy the flat if their double-bedded romance blossomed into wedding bells. Finally and significantly, Mr. Antoniades never made any attempt to obtain increased income from the flat by exercising the powers which clause 16 purported to reserve to him. Clause 16 was only designed to disguise the grant of a tenancy and to contract out of the Rent Acts.
...
Moreover in all the circumstances the power which the landlord insisted upon to deprive the applicants of exclusive occupation was a pretence only intended to deprive the applicants of the protection of the Rent Acts." (Antoniades v Villers [1990] 1 AC 417 at 462 onwards, Lord Templeman)
- Something that cannot realistically have been contemplated
"It cannot realistically have been contemplated that the respondent would either himself use or occupy any part of the flat or put some other person in to share accommodation specifically adapted for the occupation by a couple living together. These clauses cannot be considered as seriously intended to have any practical operation or to serve any purpose apart from the purely technical one of seeking to avoid the ordinary legal consequences attendant upon letting the appellants into possession at a monthly rent. The unreality is enhanced by the reservation of the right of eviction without court order, which cannot seriously have been thought to be effective, and by the accompanying agreement not to get married, which can only have been designed to prevent a situation arising in which it would be quite impossible to argue that the "licensees" were enjoying separate rights of occupation." (Antoniades v Villers [1990] 1 AC 417 at 468 onwards, Lord Oliver
- A right which was not just one that may well not be exercised but was not intended to be given any effect
"If the documents fall to be taken seriously at their face value and to be construed according to their terms, I see, for my part, no escape from the conclusion at which the Court of Appeal arrived. If it is once accepted that the respondent enjoyed the right - whether he exercised it or not - to share the accommodation with the appellants, either himself or by introducing one or more other persons to use the flat with them, it is, as it seems to me, incontestable that the appellants cannot claim to have had exclusive possession...
But though subsequent conduct is irrelevant as an aid to construction, it is certainly admissible as evidence on the question of whether the documents were or were not genuine documents giving effect to the parties' true intentions. Broadly what is said by Mr. Colyer is that nobody acquainted with the circumstances in which the parties had come together and with the physical lay-out and size of the premises could seriously have imagined that the clauses in the licence which, on the face of them, contemplate the respondent and an apparently limitless number of other persons moving in to share the whole of the available accommodation, including the bedroom, with what, to all intents and purposes, was a married couple committed to paying £174 a month in advance, were anything other than a smoke-screen; and the fact the respondent, who might be assumed to want to make the maximum profit out of the premises, never sought to introduce anyone else is at least some indication that that is exactly what it was. Adopting the definition of a sham formulated by Purchas L.J. in Hadjiloucas v. Crean [1988] 1 W.L.R. 1006, 1013, Mr. Colyer submits that the licences clearly incorporate clauses by which neither party intended to be bound and which were obviously a smoke-screen to cover the real intentions of both contracting parties...
I read his finding that, "the licences are artificial transactions designed to evade the Rent Acts" as a finding that they were sham documents designed to conceal the true nature of the transaction. There was, in my judgment, material on which he could properly reach this conclusion and I, too, would allow the appeal." (Antoniades v Villers [1990] 1 AC 417 at 468 onwards, Lord Oliver)
"Accordingly, although the subsequent actings of the parties may not be prayed in aid for the purposes of construing the agreements they may be looked at for the purposes of determining whether or not parts of the agreements are a sham in the sense that they were intended merely as "dressing up" and not as provisions to which any effect would be given...
This situation certainly does not suggest that the parties ever contemplated that other persons would be nominated to share the flat. When subsequent events are looked at the matter becomes even clearer. Although the licensor granted permission to the defendants to have the friend to stay for some weeks he made no charge therefor and during the 17 months which elapsed between the defendants' entry to the flat and service upon them of notice to quit the licensor made no attempt to occupy the flat himself or through anyone nominated by him. In all these circumstances I am driven to the conclusion that the parties never intended that clause 16 should operate and that it was mere dressing up in an endeavour to clothe the agreement with a legal character which it would not otherwise have possessed. It follows that it should be treated pro non scripto." (Antoniades v Villers [1990] 1 AC 417 at 475 onwards, Lord Jauncey)
- Making it appear that something might/could happen that would not/could not happen
"[200] Put another way, there was no dishonesty because the parties never pretended that Numology had in fact done the research. The contract permitted the work to be subcontracted to BRC and that is what occurred. The provision in the contract that purported to provide for Numology to do the research was a sham (in the Snook/Hitch v Stone sense) because it was a pretence which was intended 5 to give a false impression to third parties (in that case HMRC), whereas what was always going to occur and what the parties intended was a subcontracting to BRC. As the Upper Tribunal said at [27] “the pretence which justifies a finding of sham was that some other course might have been adopted” (namely that Numology might do the work 10 itself)." (Landid Property Limited v. HMRC [2017] UKFTT 692 (TC), Judge Falk)