[2010] UKFTT 6 (TC

									
TC00325
Appeal number SC/3108/2008

Income Tax  -  Claim by an LLP to have incurred trading losses in relation to its trade of distributing films  -  Whether circular payments resulted in expenditure “not having been incurred”  -  whether payments were deductible as trading expenses  -  whether part or all of any payments were capital payments  -  whether those payments  that were deductible were deductible in the LLP’s first period of account or whether payments made in that period included pre-payments  -  Issues in relation to the Closure Notice  -  Appeal substantially dismissed

FIRST-TIER TRIBUNAL
TAX CHAMBER

	ICEBREAKER 1 LLP	Appellant

	- and -

	THE COMMISSIONERS FOR HER MAJESTY’S
	REVENUE AND CUSTOMS (Income Tax)	Respondents

				TRIBUNAL: 	HOWARD M NOWLAN (Judge)
						NICHOLAS DEE

Sitting in public in London on 5 to 9 October 2009

Jonathan Peacock QC and James Rivett, counsel, for the Appellant

Peter Blair QC and Jonathan Davey, counsel, for the Respondents

© CROWN COPYRIGHT 2009

DECISION
Introduction

1.     This was an appeal in relation to whether the Appellant, Icebreaker 1 LLP (“Icebreaker 1”), succeeded or not in establishing that various payments that it made on 5 April 2004, its first day of trading, gave rise to tax-deductible losses in its trade of acquiring, licensing, exploiting and distributing rights in all forms of moving imagery, including filmed and recorded material.  Icebreaker made payments on that day virtually equal to its entire capital and resources, immediately closed its accounting period and claimed that the vast majority of the payments contributed to its allowable loss, that the members could then set against their other income.  

2.    The appeal really raises two sets of questions.  The first is whether a major element of the payments made by Icebreaker 1 had nothing to do with its trade but simply generated guaranteed receipts, basically inserted into the structure to ramp up the apparent spending on trading items in order to increase the initial tax relief available to the LLP and its members.  The other questions are whether various elements of Icebreaker 1’s remaining expenditure were capital or income payments, and whether the income payments included pre-payments or not.  The appeal also raises a third set of questions surrounding the Closure Notice (see paragraph 22).

3.     Icebreaker 1 had been formed, initially with two corporate members, in February 2004 with a view to conducting a trade of film distribution.  On 5 April 2004 six individuals joined Icebreaker 1, contributing capital of £1,520,000 between them, 70% of which (£1,064,000) had been funded by way of non-recourse loans advanced by Bank of Scotland.   Also on 5 April, approximately 26 documents were executed.     The most relevant effect of these documents is summarised in paragraphs 4 to12 below.

4.   Icebreaker 1 paid £46,950 to a company called Screen Partners Asset Management Ltd (“SPAM”) for the near exclusive 10-year licence interests in relation to the screenplay or other rights in relation to eight films, potential films and DVDs.    Only one of the eight proved material, £20,000 being allocated to the licence rights in relation to a screenplay and other rights to a work called “Young Alexander” that was about to be filmed. 

5.     Icebreaker 1 entered into both an Administrative and an Advisory Agreement with a company called Icebreaker Management Limited (“IML”) under which, later in the same day, it paid the aggregate of £120,000 and £50,000 for services, having been invoiced for those sums that were due under the two agreements.

6.     Icebreaker 1 appointed a company called Centre Film Sales Limited (“Centre”) to be its head distributor in relation to the exploitation of the acquired licence rights.   Under this agreement, the Head Distribution Agreement (the “HDA”), the basic expectation was that Icebreaker 1would pay fees, thereby meeting a proportion of the distribution costs (and the film production costs where a screenplay first had to be filmed, before it could be distributed) and under this agreement Icebreaker 1 became entitled to various payments.  These payments were essentially of two categories.    Some were payable without any reference to whether there were any film distribution  revenues or not.   Others were payable only out of such revenues.   

 The former category of payments consisted of 
•	a payment of “a Final Minimum Sum” of £1,064,000 payable at the end of year 10, guaranteed by Bank of  Scotland, and
•	10 annual payments (defined as “Annual Advances”) of amounts equal to interest at Bank of Scotland’s Base Rate, on £1,064,000, the first four, but not the last six annual payments, being guaranteed by Bank of Scotland.

The latter category of payments consisted of a proportion of distribution revenues, calculated on the basis that Centre would first retain 30% of such revenues, and then in the case of the Young Alexander film, Icebreaker 1 would receive 250/1,040 of the 70% balance until a total of £1,040,000 had been paid, and thereafter it would receive the fractionally greater amount of 25% of the 70% balance.      
7.    At the end of year four, and on the later anniversaries of that date, the HDA contained option provisions enabling each of Icebreaker 1 and Centre to sell and respectively to acquire Icebreaker 1’s business for a formula figure, the minimum amount of which was always to be £1,064,000.  In this decision we will generally refer to the former category of payments referred to in paragraph 6 above, and to the minimum amount of the option consideration, i.e. the £1,064,000 just mentioned, as “the certain payments”. 
8.      Icebreaker 1’s commitments under the HDA to meet a proportion of the distribution and production costs arose under a clause in the agreement which provided, rolling together a clause and a definition, that Centre was to provide Icebreaker 1 with invoices for “all costs and expenses incurred under [13 categories of expenditure described in a Schedule to the HDA], and Icebreaker 1 was to pay such invoices within 30 days”.  The same clause went on to provide that Icebreaker 1 undertook “to pay an amount of £[    ] in respect of such [costs] to Centre immediately upon signature hereof”.
9.      Whilst the figure in the clause of the HDA just quoted was left blank, Centre provided Icebreaker 1 with an invoice on 5 April 2004 for £1,273,866, containing just the words “Re: Head Distribution Agreement”.  Icebreaker 1 paid this amount to Centre on the same day.
10.     Whilst we will give more details in relation to the critical discussions as regards the payment instructions below, we should mention in this summary that before the payment, just referred to, was made to Centre, Centre modified the payment instructions to Bank of Scotland and directed that £1,064,000 be paid to one account, which was effectively a blocked deposit account with Bank of Scotland, paying annual interest equal to Bank of Scotland’s Base Rate.  The residue of the total payment, in other words £209,866, was paid to a different Centre account with Bank of Scotland, on which the monies were freely available to Centre. 

11.     Under the HDA, Centre was required to procure and provide security from a AA- rated entity for the payment of the certain payments.   This was achieved by Bank of Scotland providing an effective guarantee to Icebreaker 1, in the form of a Letter of Credit, for Centre’s payment of the certain payments.    Bank of Scotland’s exposure under this Letter of Credit was itself secured by Bank of Scotland taking a charge over the blocked deposit placed by Centre with Bank of Scotland, referred to in paragraph 10 above.   Bank of Scotland also took charges over all of Icebreaker 1’s assets, including the Letter of Credit, for the repayment of the members’ limited recourse borrowings of £1,064,000.
12.      Icebreaker 1 also paid an amount (explained below) of £17,024 to Bank of Scotland, leaving Icebreaker 1 thus by the end of the day with £12,160 standing to the credit of its account with Bank of Scotland. 
13.     Although Icebreaker 1 can only have commenced its trade on 5 April 2004, it closed its first accounts on that day; claimed that virtually all of its expenditure (all the sums referred to above with the exception of that mentioned at paragraph 12) contributed to a trading loss for the period, and it was then claimed that the individual members of Icebreaker 1 could set their respective proportions of the loss against their other income for Income Tax purposes. 
14.     In due course, HMRC opened an enquiry into the return.  At one point, Icebreaker 1 conceded that the licence payments referred to in paragraph 4 above were capital payments that did not qualify for tax relief.   Over two years later, on 2 May 2007, HMRC issued a Closure Notice, containing the conclusion that Icebreaker 1’s claimed loss was to be reduced from £1,491,816 to £11,900.
15.     A day or two after Icebreaker 1 filed an appeal against the conclusions and adjustments in the Closure Notice, HMRC wrote to Icebreaker 1 explaining the basis of the re-calculation of the loss to £11,900.    Ignoring an irrelevant error in relation to a £1000 audit fee, the basis of the calculation was that the whole of the payment being made to Centre was being disallowed; 30% of the total sum of £170,000 paid to IML was being disallowed, and the balance of the £170,000, namely £119,000, was being allowed but 9/10ths of it treated as a pre-payment.   Accordingly the only loss allowed for the period ending 5 April 2004 was the allowable 1/10th of £119,000, namely £11,900.
16.     This case raises a considerable number of points.  By far the most important relates to the deductibility of the £1,064,000 element of the £1,273,866 paid to Centre under the HDA.  One contention advanced by HMRC in relation to this element of the payment was that because of the banking mechanics with Bank of Scotland, and the claimed elements of “circularity”, the right analysis was that the £1,064,000 element was not really paid or incurred at all.  HMRC’s alternative contention in relation to the £1,064,000 element was that it was still appropriate to consider this element of the payment separately from the payment of the balance of £209,866. The former element was paid to acquire rights broadly equivalent to those of a loan of £1,064,000, such that the payment of £1,064,000 had nothing to do with either Icebreaker 1’s trade or the production and distribution of films, and only the balance of £209,866 could realistically be said to have been incurred “as fees on production or exploitation” at all.
17.     These contentions in relation to the £1,064,000 element have variously been advanced, and in turn resisted, by debate as to whether they rely on contentions of “mislabelling”, whether contentions of “mislabelling” are tantamount to contentions that there were sham elements to the documentation, and finally just on the simple proposition that the reality was that the £1,064,000 element was not realistically paid for any trading purpose.
18.     Without at this stage expanding on the facts relevant to the £1,064,000, and to the reasons for our decision, we confirm now that we accept the contention that the payment of £1,064,000 was not a deductible trading expense. 
19.     The £209,866 balance payment to Centre still raises 5 questions.  One is whether it is appropriate to sub-split this payment and to consider what elements of it were paid for.    We consider that it is.    This creates four further questions.    Were the payments for the production of the film, Young Alexander, as distinct from the distribution of the finished material, capital or income payments?   If production payments were income payments, was any element of the £209,866 attributable to production costs a prepayment at 5 April 2004?   Two identical questions then arise in relation to the rest of the £209,866 element expended or to be expended on distribution.   Should these amounts be treated as capital or income payments, and if the latter, as prepayments or not? 
20.     Very considerable expert accounting evidence was given to us, generally with some conflict between the respective experts, on these prepayment issues and in relation to the proper treatment of the £1,064,000 element.  We will not at this stage summarise our conclusions in relation to the £209,866 element, though we will say that in arriving at decisions, the regrettable fact that there was a total breakdown in relations between Icebreaker 1 and IML on the one hand and Centre, SPAM and the individual controlling those companies on the other hand, means that we are having to resolve complex factual and accounting questions in circumstances where no-one at the hearing actually knew what expenditure had been incurred or spent by 5 April 2004, if at least it is the spending pattern relevant to Centre that governs this issue as regards Icebreaker 1. 
21.     We must finally address questions relating to the payments of £120,000 and £50,000 made to IML on 5 April 2004.   The issues here are first whether Icebreaker 1 was being charged a capital payment for “setting up the structure”.  To the extent that it was not, the question is whether the payments were pre-payments or not. 
22.     There are also issues in relation to the Closure Notice, though we will deal with these last since it will emerge that the basis on which we decide this case will, we believe, make the Appellant’s contentions in relation to the Closure Notice somewhat forlorn contentions. 
The facts in more detail
Background
23.     The major promoter of “the Icebreaker concept”, as it was periodically termed, was Caroline Hamilton.  Caroline Hamilton, who gave extensive evidence, was an impressive woman.   In addition to having been a Cambridge graduate, a triple blue and having led “all women” expeditions to both the North and South Poles, she had been a banker for eight years at Samuel Montagu and Kleinworts.  Her work in the banking sector had involved a broad range of lending activities, including project and tax-based financings. She had thereafter worked for over ten years in the film industry with a man called Kent Walwin, being employed during this period by Screen Partners Limited and Screen Partners London Limited, two of his companies.     
24.     Kent Walwin was a director, and also a major shareholder, of a number of companies in the film industry. Amongst the companies, so far as this appeal is concerned, were Young Alexander Limited (“YAL”), the assumed owner of the screenplay for, and intended producer of, “Young Alexander”, SPAM and Centre.   Kent Walwin was described by several of the witnesses as an enthusiast, and someone who could impart his enthusiasm to others.  He had worked in the film industry for 35 years, was said to know “everyone in the industry”, was said to be the kind of man who “got things done”, and the type of man required for any project that involved turning the basic idea for a film into reality. 
25.     Kent Walwin and one of Caroline Hamilton’s close colleagues, Tim Jeynes, had all been involved with sale and leaseback structures on behalf of film production companies, and they had been particularly involved with structures that used insurance to insure or guarantee certain streams of income derived from films.     
26.     It appears that Kent Walwin and Caroline Hamilton concluded that insurance was ceasing to be so readily available for attracting investment into film projects on account of large losses incurred by insurers, and so Caroline Hamilton and Tim Jeynes in particular began to work on “the Icebreaker concept”.   Kent Walwin was also involved with the project and the three, and SPAM and Centre were referred to in the Information Memorandum for Icebreaker 1 itself as “the Icebreaker team”.    
27.   Reference was made in the Information Memorandum and in Caroline Hamilton’s Witness Statement to what was referred to as “the Icebreaker concept”, though it was never made quite clear what the essence of the Icebreaker concept was asserted to be.     It was probably a mix of the following four attributes.   
28.     An intended attribute was that generally Icebreaker LLPs (and it was assumed and intended that there might be numerous LLPs) were expected to be trading in distributing films, DVDs etc, and generally exploiting completed works, rather than in actually owning or producing films.  Consistently, the second expectation was that most of the expenditure of the LLPs would be revenue expenditure, as distinct from capital expenditure in buying, or producing films. 
29.    A third related aspect was the feature that it would not generally be necessary for the LLPs to own films or other works.  Where they were interested for instance in distributing a film, it would often be sufficient just to take a reasonably long-term licence, entitling the LLP to have, say, exclusive or near-exclusive distribution rights for a 10-year period, without actually acquiring the copyright and ownership of the film itself. 
30.    The fourth intended attribute was the feature that investors would generally borrow to make their capital contributions to the LLPs.   In order to diminish the risks of the investment, it was implicit that matters would have to be structured so that certain receipts were guaranteed to arise, rather than all receipts be dependent on the successful distribution of the film or the DVDs. 
31.     All LLPs were intended to operate in conjunction with a company specifically set up and owned by Caroline Hamilton, namely IML, and in conjunction also with Kent Walwin’s various companies.  For taxation purposes, members of the LLPs would need to demonstrate that they were actively engaged in the LLPs’ distribution activities, but it was also always expected that advisory services in selecting films, screenplays, and other such material, and administrative services would all be furnished to the LLPs by IML.  Similarly it was expected that Centre would often be involved in procuring the licences over various screenplays, generally making them available from its library of more than 400 titles, and, most important of all, Centre would act as the LLPs’ head distributor.
32.      The HDA governed the relationship between Icebreaker 1 and Centre for this critical function.    Centre was entitled under this agreement to bill Icebreaker 1 for Centre’s costs of production and distribution, it being implicit that Centre would either provide its own finance to meet a further proportion of such costs, or it would receive fees from other entities, in return for conferring some percentage of distribution revenues on those other entities.   In return, Centre was to pay the certain payments, and the defined share of distribution receipts to Icebreaker 1.  Centre hoped to recover its outstanding costs, make its profits, and meet its obligation to pay revenues to those “other” entities either out of the “first 30%” that Centre was entitled to retain out of distribution revenues, or out of the residue of the balance of the revenues, not attributable to Icebreaker 1.  In other words, third parties could be paid out of the first 30%, or out of the 75% slice of the balance of 70%, and the balance would be retained by Centre.
The Information Memorandum
33.   In February 2004 IML issued an Information Memorandum to potential members of Icebreaker projects.   It is relevant to refer to a few of the points mentioned in the Memorandum.
34.      In the short “Welcome Note” at the beginning of the Memorandum, it was said that it was expected that 99.2% of each member’s capital contribution to the LLP would be “available as a trading loss in the year to 5 April 2004 to be claimed against the Member’s other income”.   The very next paragraph then referred to the ability of the LLP to “decide to sell its Business or library of distribution rights”, and referred to the option at year four and thereafter “to cash in their participations, repay their financing and make a profit, incurring effective capital gains tax of only 10% including full business asset taper relief”.  The implicit expectation was that because the capital contributed would have qualified for trading deductions, there would be no base cost for capital gains purposes, but nevertheless the sale of the business would be a capital gains event, and not one involving the recapture of the initial income relief.    With business asset taper relief, the tax charged would be much less than (in reality 25% of) the initial tax relief obtained. 
35.    In describing Icebreaker 1’s proposed trade, the emphasis in the February Memorandum was on “a worldwide distribution and marketing business”.  This is clearly what was initially intended, though it seems that the fact that the first screenplay, the rights to which Icebreaker 1 acquired, was of a subject that had not yet been filmed, and that was indeed about to be filmed immediately after 5 April 2004, led to Icebreaker’s trade being expanded to include “production”.    
36.   The Information Memorandum described the “certain payments” in the following terms: - 
“In return for the sub-licence of the Icebreaker LLP’s rights, Centre will undertake to pay the LLP certain advances (the Centre Advances) during the Trading Period and a final minimum sum (the Final Minimum Sum) at the end of the Trading Period. The amount of such Centre Advances and Final Minimum Sum will be negotiated between Centre and the Icebreaker LLP before they enter into the Head Distribution Agreement, and will be reduced by actual revenue received in the relevant period from the exploitation of the LLP’s rights.  The Centre Advances for the first four years and the Final Minimum Sum will be guaranteed by a financial institution with a minimum credit rating of AA- from Standard & Poor’s”
37.    The Information Memorandum then described the cross-options in the following way:-
“Under the Cross Option, the Icebreaker LLP may choose or be required to sell its Business to Centre on any anniversary date after four years.  The Option Price will comprise a one-off payment to the LLP guaranteed by a financial institution with a minimum credit rating of AA- from Standard & Poor’s, and an earn-out for the LLP reflecting anticipated future revenue.    The terms of the Cross Option will be agreed between Centre and the LLP before the LLP enters into the Head Distribution Agreement.”
38.     Whilst we have quoted those two passages from the Information Memorandum in order to indicate what potential LLP members were told, we should clarify that under the HDA the terms eventually adopted by Icebreaker 1 were somewhat different.   The figures fixed for the “Centre Advances” were in fact fixed at amounts equal to Bank of Scotland’s Base Rate on £1,064,000; the Final Minimum Sum was set at that figure, and that figure was of course the same as the amount initially advanced to LLP members.  More significantly, the receipt or non-receipt of film distribution revenues ended up having no influence on the amount, timing, funding of or security for the “certain payments”. 
 39.    The option price was also adjusted.  It became the higher of the Final Minimum Sum and the Market Value of Icebreaker 1’s business, the intention being that the Bank of Scotland Letter of Credit guarantee would apply to no more than the Final Minimum Sum element, though it would apply to that.  There were then two drafting errors.  One unimportant one was geared to the way in which there was an unintended overlap, and effective “doubling up” between the Market Value calculation that would include the present discounted valuation of anticipated future revenues, and the earn out which was not confined to “excess revenues” beyond those taken into account in the initial valuation.  Far more significantly, we were told that the drafting of the Letter of Credit in fact failed to attach the guarantee to any element of the Option Price, though it was plainly meant to do so, Bank of Scotland understood that it was meant to do so, and it certainly applied to the other elements of the “certain payments”. 
40.    The Information Memorandum referred in the following terms to the non-recourse loans that would be available to fund 70% of the capital contributions into the LLPs to be made by individual members: 
“Any Limited Recourse Loan made available to a Member will carry fixed interest payments, with final repayment due at the end of ten years.    Recourse for all payments under the Limited Recourse Loans will be solely against revenue generated from the exploitation of the Icebreaker LLP’s rights, including the Centre Advances and Final Minimum Sum.  Members will be entitled to repay the Limited Recourse Loans without penalty on an agreed date after four years, for example in the event that the Cross Option is exercised. 
The Advisor believes that the LLP will be able to negotiate the Centre Advances and Final Minimum Sum such that these amounts will be sufficient to meet all payments of interest and principal under the Limited Recourse Loans.   The Advisor also believes that the LLP will be able to negotiate the Option Price such that the one-off payment will be sufficient to repay the principal amount outstanding under the Limited Recourse Loans on the agreed date.”
41.     We should mention three points in relation to the Bank of Scotland loans. 
42.     A fairly material change was made in that the term of the loans was reduced to a four-year period, with the provision that Bank of Scotland might extend the term of the loan.   Plainly the expectation was that, if the distribution of the film or films had not been particularly successful, then the likelihood is that Icebreaker would exercise the put option to sell its business to Centre at year 4, the minimum element of the Option Price would be backed by the Bank, and the loan would be repaid.  In its banking memorandum, Bank of Scotland assumed that this was the likely end result.   On the other hand, if the distribution was particularly successful, then whilst the Bank’s guarantee would still apply to the year 10 Final Minimum Sum, it would not apply to Centre’s continuing liability to pay the Centre Advances.   Effectively thus if Icebreaker 1 was content to rely on Centre’s credit standing and assumed that substantial distribution receipts would justify the credit risk, and if Centre itself did not exercise the option, then the trading arrangements would continue at least until the next annual opportunity for the exercise of the options.  In this event, Members would either have to repay the four-year loans or negotiate different terms on which they might be extended.   
43.    A second change as regards the bank’s role was that it became a virtual requirement that all LLP Members should in fact take out the non-recourse loans to fund 70% of their capital contributions.  This is of little significance, and the change only resulted from the pragmatic consideration that if some Members had not taken out such loans, but the LLP’s assets, including the Letter of Credit, were taken by the Bank in satisfaction of loans made to those Members who had taken out the non-recourse loans, this would prejudice the Members who had not taken out such loans. 
44.      The third point relates to the figure of £17,024 that Icebreaker 1 paid to Bank of Scotland that we mentioned in paragraph 12 above.  The nature of this payment was that it was effectively a loan by Icebreaker 1 to its Members, albeit that the £17,024 was paid to Bank of Scotland.   The relevant amount represented 1.6% of the non-recourse loans, with 0.6% being an arrangement fee that Bank of Scotland was entitled to retain.   The remaining 1% represented the interest spread for four years, between the amounts chargeable to the individual borrowers, and the amount earned by Centre on the blocked Bank of Scotland deposit.  Bank of Scotland was thus entitled to take 0.25% to profit, and to retain it in each of the four first years of the transaction.    
45.    One of the questions in the “Frequently Asked Questions” section of the Memorandum dealt with a further issue in relation to the Member’s non-recourse loans in the following terms:-
“What happens if Centre defaults on its obligations to pay the LLP?   Centre’s obligations to pay the Centre Advances for the first four years, the Final Minimum Sum, and the one-off payment under the Option Price will be guaranteed by a financial institution with a minimum credit rating of AA- from Standard & Poor’s.  If both these parties default, there may be insufficient revenue available to pay the interest and principal due under the Limited Recourse Loans.  However, there will be no recourse against members for these amounts.”
46.     We should highlight two final points made in the Information Memorandum.    First it was specifically said that the fees payable to the Administrator and the Advisor “will be payable in advance”.  Secondly an important subscription condition was mentioned albeit that it was obviously waived.   This said:-
“Conditions
Admission to membership of an LLP is conditional on total Capital Contributions equal to or exceeding £5 million being raised in respect of Icebreaker 1 LLP by 31 March 2004.
If Capital Contributions equal to or exceeding £5 million are not raised by 31 March 2004, the Administrator will return all Capital Contributions without interest to the applicants.”
The banking arrangements with Bank of Scotland
47.    In due course we will need to summarise the evidence in relation to who negotiated, and who knew the detail of, the banking arrangements with Bank of Scotland.   At this point all that we are concerned to do is to illustrate what Bank of Scotland understood to be the essence of the banking arrangements, and to do this by quoting from an internal Bank of Scotland paper written in March 2004.
48.     Before quoting from this paper, it may be clearest to re-summarise (all in one section) the various banking and payment arrangements that were put in place, all on 5 April 2004.    They were that:

•	Bank of Scotland lent 70% of capital contributions to each individual member of Icebreaker 1, the amount being £1,064,000.
•	The individuals contributed their capital to Icebreaker 1, funds coming directly from Bank of Scotland as regards the 70% element, and from the members as regards the 30% element.
•	Icebreaker 1 paid £170,000 to IML under the two agreements with IML, £46,950 to SPAM for licence rights over 8 screenplays or equivalent rights, and £1,273,866 to Centre under the HDA.
•	Under the HDA, Icebreaker 1 acquired the rights to the certain payments and the share of film distribution revenues indicated in paragraph 6 above.
•	When Icebreaker 1 was invoiced for £1,273,866 by Centre, Icebreaker gave Bank of Scotland an instruction to pay that sum to Centre.  In the same telephone call as that in which Ron Yeats of Bank of Scotland and Caroline Hamilton agreed, and Caroline Hamilton hand-wrote, the banking instruction for Icebreaker 1 to make the payment just mentioned, there was a further discussion between Bank of Scotland and Kent Walwin on behalf of Centre under which the instruction was changed.  Under the changed instruction, Centre deposited £1,064,000 in the blocked deposit account with Bank of Scotland, carrying interest at Bank of Scotland’s Base Rate.  The balance of  £209,866 was paid into a separate Centre bank account, also with Bank of Scotland.
•	Bank of Scotland issued a Letter of Credit to Icebreaker 1 effectively intended to guarantee the first four Centre Advances, the Final Minimum Sum and that minimum element of the price payable for the sale of the business in the event of either Option being exercised.   Through a drafting error it was suggested that the Letter of Credit failed to cover the Fixed Minimum element of the Option Price, but it was certainly meant to do so, and that was Bank of Scotland’s understanding.     
•	Centre’s rights under the blocked Bank of Scotland deposit were charged in support of Bank of Scotland’s obligations under the Letter of Credit.
•	Icebreaker 1 charged all its assets and receipts, including the Letter of Credit, in favour of Bank of Scotland to secure the discharge of the members’ limited-recourse borrowings.
•	The arrangement fee, and the spread between the interest payable on the blocked deposit and the slightly higher interest charged on the members’ borrowings were paid in the way summarised in paragraph 44 above. 

49.     Two paragraphs of an internal Bank of Scotland paper written in March 2004 gave a summary of Bank of Scotland’s understanding of the arrangements, and were as follows:-
“Trading Highlights
We will be lending to individual members investing in a newco LLP with the primary repayment source being guaranteed by a cash deposit held by BoS.    While a detailed business plan has not been provided by the LLP, given the structure of the transaction, with the minimum receipts, and final exit supported by cash collateral, we consider this acceptable. (our emphasis)
Risk Assessment
It is important to highlight that the commercial success or otherwise of the exploitation of the films has no impact on the banking risk features in this opportunity.   The structure of this transaction allows for a zero weighting to be attached to the debt as a result of the charged cash deposit held in name of Centre and the cost of funds exposure will be perfectly matched from the income earnings on the cash deposit.  In conjunction with our solicitors we will ensure that the documentation underlying the transaction allows for the cost of funds earnings on the deposit to be paid directly to us to meet the corresponding interest on the loans.   The interest margin will be paid up front on a NPV basis and amortised over the life of the loans. Given that the servicing of the debt and eventual repayment of the debt will be guaranteed from Centre’s cash deposit, and our margin will be paid up-front, we consider the transaction delivers a low risk opportunity despite the limited recourse nature of the loans. A legal opinion will be sought from our Solicitors Dundas & Wilson confirming the robustness of the security and structure and zero weighting of the debt”.  (our emphasis)
The licence rights acquired by Icebreaker 1 on 5 April 2004, and more detail in relation to the status of the most significant licensed screenplay, namely “Young Alexander”
50.     Whilst the general expectation was that Icebreaker LLPs would be involved with distributing completed films, the first screenplay that was to be promoted through the Icebreaker structure was the screenplay of a film whose short title was to be “Young Alexander”.  This was a low budget film, albeit that Christopher Cazenove was to act in it.  It was intended to be launched, partially for television and DVD viewing, simultaneously with other Alexander the Great films being produced at the time with substantially larger budgets, and it was thought that the Young Alexander film might attract considerable attention, and thus make profits, because it was dealing with this same figure, Alexander the Great, albeit at the time when he was a schoolboy. 
51.     The filming of Young Alexander was scheduled to commence shortly after 5 April 2004. 
52.    It appears that the fact that Young Alexander had yet to be filmed when Icebreaker 1 wished to inject its funds caused some confusion as to how payments should actually be made.  Until very late in March 2004, the plan was that Icebreaker 1 would pay £250,000 to SPAM for its licence, and perhaps also to fund the production.  It then appears that as late as the weekend of 3-4 April, Kent Walwin told Caroline Hamilton that “things were not going to work” on that basis.  The revised plan that was actually adopted was that Icebreaker 1 paid only £20,000 to SPAM for its licence rights over Young Alexander, and the balance of the £46,950 for the other seven licence interests acquired.  The proposed HDA between Icebreaker 1 and Centre was then modified.  Instead of the notion of “exploitation” under the HDA applying just to the notion of exploiting finished materials by distributing them, it was extended to the wider idea of “exploiting” basic licence rights of unfilmed material by actually producing the film, and then of course continuing the exploitation by distributing it.  As a result of this change, three additional paragraphs were inserted into Schedule III to the draft HDA to enable Centre to charge Icebreaker 1 for the costs of film production in addition to the cost of all the distribution functions.     
53.      HMRC suggested in argument that the reason why these last minute changes had to be made, and the reason why Kent Walwin had said that the earlier proposal was “not going to work” was that if Icebreaker 1 had paid £250,000 to SPAM, this would have left Icebreaker 1 with only £1,070,816 to pay to Centre, and if of that £1,064,000 was going to be put into the blocked Bank of Scotland deposit, this would have left the £1,064,000 “sticking out like a sore thumb”, with only about £6,000 being paid to Centre for Centre to have available to meet distribution costs.   It was not particularly material to try to ascertain whether this suggestion was correct or not, though it is important to note that Centre’s sub-distribution role was extended in the way summarised, and the split in payments by Icebreaker 1, into £46,950 to SPAM and £1,273,866 to Centre, was adopted. 
54.     The licence rights granted to Icebreaker 1 by SPAM gave exclusive rights to Icebreaker 1 for a period of 10 years.   In the case of Young Alexander, the rights were for “world distribution, except Greece and the Middle East”, and world rights for other of the seven titles.
The key terms of the HDA between Icebreaker 1 and Centre
55.     Clause 2.1 of the Agreement defined Centre’s role as follows:-
“The LLP hereby appoints Centre, as its sole and exclusive distributor for the Term [10 years] to exploit the Rights in the Territory, incur Exploitation Costs and procure Materials in relation to the Moving Images.    Centre shall enter into Service Agreements and Exploitation Agreements for this purpose and the LLP and Centre will consult each other frequently in relation to all exploitation matters of whatsoever nature, giving due and proper consideration to each other’s views.”
56.   After a further sub-clause that sought to stress the active participation of members of Icebreaker 1 in the LLP’s trade, Clause 2(4) provided that:-
“Centre shall provide the LLP with copies of invoices for all Exploitation Costs and the LLP shall pay such invoices to Centre or the Service Providers within thirty (30) days of receipt.  The LLP undertakes to pay an amount of [     ] in respect of such Exploitation Costs to Centre immediately upon signature hereof.”
As already indicated, the blank was never filled in.  “Exploitation Costs” were defined in Appendix III to the Agreement in the following manner:-
“Exploitation Costs
“Exploitation Costs” shall mean the following items of costs and expenses (net of recoverable VAT) incurred in connection with the exploitation of the Moving Images:
(a)   all costs and expenses of engaging writers, researchers, artists, technicians and facilities to enhance and develop the Rights, including all costs necessary to obtain screenplays, formats, outlines, additional dialogue, punch ups, and other content and to purchase or manufacture additional filmed or otherwise recorded material;
(b)   the costs and expense of engaging all necessary artists, contributors, technical staff and all other expenses (including but not limited to costs of development, facilities, materials, services and use of equipment) required to produce and manufacture materials for use in connection with the Moving Images, including all copy negatives, digital material, sound tracks, prints, tapes and any other picture or sound material; 
   (b)   all  advertising, marketing and publicity costs including proportionate costs of attending trade fairs conferences, markets and festivals and all costs and charges in relation to the creation and manufacture of materials for the advertising and marketing of the Moving Images, including all trailers, promos, electronic press kits, advertisements and artwork;
(a)	………
…………..
(l)…..”
57.     With the exception of paragraph (f), all of the remaining items down to (l) were distribution costs.   Paragraph (f) covered payment of “residuals” to actors, writers, composers, directors and others, and so was perhaps more a cost of production than distribution.   More significantly, each of the paragraphs down to (l) (which would actually have been (m) but for the fact that the last minute changes resulted in there being two paragraph (b)s) was preceded by words such as “all costs”, “all amounts paid or payable”,  “expenses of…” and “any and all royalties paid or payable…”
58.     Clause 4 was headed “Amounts payable by Centre”, but it referred only to the Centre Advances, the Final Minimum Sum, and the payment of the Option Price.    In other words it did not refer to the “Gross Receipts relating to Exploitation Agreements” which were dealt with in Clause 5.   Clause 4 commenced with a sub-clause which counsel for the Appellant considered to be most important, in the following words, on which we will comment in giving our decision and reasons:
“In consideration of the rights and benefits obtained by Centre under this Agreement, Centre hereby undertakes and agrees to pay the Annual Advances and Final Minimum Sum to the LLP on the dates specified in Appendix II”.
Appendix II was very simple.   The Annual Advances, defined to be “the LLP Base Rate on the Final Minimum Sum”, and “the LLP Base Rate” in turn being defined to mean “Bank of Scotland Base Rate” were payable annually on 4 April in all years from 2005 to 2014, and the Final Minimum Sum was £1,064,000, payable on 4 April 2014. 
59.    Clause 4 also contained the Put and Call Options for the transfer of the “entire business and assets” of Icebreaker 1 to Centre.  The Option Price was defined to mean:-
“the higher of:
1.	the current market value of the Rights and Materials; and
2.	the Final Minimum Sum
plus an earn-out to be agreed reflecting anticipated future revenue to be generated by the Rights”
60.     Clause 4 also contained provisions for the exercising party to indicate what it considered to be the appropriate price for the value of the business, “to the best of its knowledge and belief”, there then being a provision for an independent valuation in the event of disagreement.  
61.    Clause 4.3 provided finally that:-
“As security for its obligations to pay the first four Annual Advances, Final Minimum Sum and/or the Option Price in accordance with this Clause 4, Centre undertakes to obtain the Bank Security immediately upon signature hereof”.  
The Bank Security had to be “appropriate security provided by a financial institution with a minimum credit rating of AA- from Standard & Poor’s in an amount equal to the sum of the first four Annual Advances and Final Minimum Sum”.  Such security had to be “in a form and substance acceptable to the Lender”, the Lender being defined to mean Bank of Scotland. 
62.     Clause 5 dealt with the payment of “all Gross Receipts relating to Exploitation Agreements which [Centre] has entered into with Distributors” and set up machinery whereunder the gross receipts were meant to be paid into a Collection Account maintained by the Collection Agent, Bank of Scotland.  We have already mentioned the way in which Centre was entitled to the first 30% of all such receipts.  Of the 70% balance, Icebreaker 1 was to be entitled to 250/1040 of the receipts derived from Young Alexander until £1,040,000 “had been paid”. “Paid” in this context presumably referred not to the Gross Receipts, but to the 70% residue after Centre had retained its 30%.  There was no evidence as to precisely how the rather involved fraction was arrived at, but we will refer to this point again below. Once the £1,040,000 had been paid, Icebreaker 1’s percentage of the 70% residue of receipts after Centre had retained its initial 30%, was to rise fractionally to 25%.
63.     Centre was meant to pay commissions to sub-distributors out of its initial 30% and then Clause 5.3 indicated that “any third party participations in addition to those covered by the Exploitation Costs, including any revenue sharing arrangements that Centre may have entered into with the Service Providers or other third parties, shall be borne by Centre out of amounts payable to Centre in accordance with Clause 5.1”.   That enabled Centre to pay such items either out of its first 30% or out of its residual share of the 70% balance, but obviously not out of the payments to which Icebreaker 1 was entitled. 
64.     We should also quote sub-clauses 5.5 and 5.6 because they have a bearing on the interpretation of the cost-sharing notion of the expenses for which Icebreaker 1 was meant to be invoiced, and they also have some relevance in relation to the dispute between the parties concerning prepayments.   They provided:
“5.5.  Centre shall provide written sales reports to the LLP on a three-monthly basis on the last days of March, June, September and December.  Such reports shall be submitted within thirty (30) days of the period to which they relate and shall set out the following in whatever detail the LLP may reasonably require:
1.	sales and Gross Receipts by territory and media; and
2.	any other monies received or receivable by Centre in connection with the Moving Images; and 
3.	a précis of all Service Agreements, Exploitation Agreements and Distribution Agreements entered into by Centre; and
4.	all Exploitation Costs and Additional Costs payable or incurred. 

5.6	Centre warrants and undertakes to keep detailed and proper books of account relating to the Moving Images, Exploitation Costs and Additional Costs, including details of all Gross Receipts, expenditure, commissions and books of accounting with Distributors to the extent received by Centre.   The LLP or its representatives shall have the right during normal business hours and on reasonable notice during the Term to inspect and take copies of such books of account.”

65.    The final point to mention in relation to this section of the HDA is that no figures were inserted into the boxes that would have dealt with the share that Icebreaker 1 and Centre were respectively entitled to out of the 70% balance of receipts derived from the 7 screenplays other than Young Alexander.  It was said that these remained to be agreed, and in fact they were never addressed.
66.     There was some limited information in the documentation, that we will refer to in the course of summarising the evidence, on the subject of when and to whom Centre made payments that were presumably payments in discharge of production costs, and possibly in one case, of distribution costs.   It is worth noting at this point, however, that although sub-clauses 5.5 and 5.6 provided for the provision of considerable information from Centre to Icebreaker 1, the only invoice, or information report of any sort that appeared to have been delivered to Icebreaker 1 was the one that we referred to in paragraph 9 above, which failed to deliver any of the information contemplated by the two sub-clauses, or indeed any information at all.
The two agreements with IML, and the amounts invoiced by, and paid to, IML on 5 April 2004
67.     As already indicated, Icebreaker 1 entered into two agreements with IML on 5 April 2004, one called the Administrative Agreement, and one the Advisory Agreement.
68.     The Administrative Agreements provided that:
“The Administrator shall provide to the LLP the Services set out in Schedule A.   Such services shall be provided by the Administrator to the level and standard…..etc”
69.    Clause 3 then provided that the Icebreaker 1 would pay £120,000 for the Services, and would also pay £3,040 in arrear, if IML claimed that amount, in each of the 10 years for which the Agreement was to be in force. Another clause contemplated that if additional services were called for, other than those set out in Schedule A, then the parties would have to agree on what services were required and what additional payments would be due for those other services.  It appears that at least so far as this Appeal is concerned, we are not concerned with “other services” or additional payment for them. 
70.     Prior to turning to Schedule A, it is worth mentioning that Clause 6 provided for an annual review to be undertaken, as from 31 March 2005, for the parties to review the services and the standard of services.   
71.     Schedule A, which defined the services, was split into 14 headings, and the rough definition of services to be provided was as follows:-
1.	to keep proper books of account, prepare financial statements and liaise with the auditors;
2.	following consultation with the Advisor (the same person!), to prepare for each proposed acquisition a project business plan;
3.	to prepare reports and plans for Members’ meetings;
4.	to liaise with the auditors, Registrar of Companies, the Revenue and HM C & E;
5.	to advise the LLP in relation to obtaining legal services;
6.	to submit returns to meet statutory requirements; 
7.	to admit new members, take Capital Contributions and receive income;
8.	to open a bank account, and draw cheques;
9.	to open and close other bank accounts;
10.	promptly to distribute reports that IML received to the Members;
11.	to issue cheques and payment instructions;
12.	to prepare agendas and minutes for Members’ meetings;
13.	to serve notices as regards transfers of partnership interests; and
14.	to communicate with Members.   

72.     The Advisory Agreement also described the services to be provided under it in the future tense, as follows:
“We will provide you with advisory services relating to the acquisition, licensing and exploitation of rights in moving images.   We will advise you on all of the areas of business set out in the LLP agreement of today’s date, including the negotiation and entry into agreements with sub-contractors and other third parties for the exploitation of rights in moving images”.  
73.      Once again the payment for the services, namely £50,000, was paid on 5 April albeit that the agreement had a term of 10 years, with on this occasion no provision for any payment in future years, along the lines of the modest £3,040 provided for in the Administrative Agreement.     
74.     It is worth remembering at this point that the Information Memorandum had specifically said that the fee for the services of the Administrator and Advisor would be paid in advance. 
75.     While the Administrative Agreement provided, as possibly its most significant service requirement, that the Administrator would provide business plans, and the Advisory Agreement also provided for advice in relation to the acquisition, licensing and exploitation of rights in moving images, it seems that the former agreement was concentrating on the management and administration of the transactions, whilst presumably the latter was more concerned with the actual choice of particular rights rather than others, and the choice of sub-distributors. 
The later events
76.     The subsequent events were of little significance to the outcome of the appeal but they were described to us, and they are worth recording. 
77.     There was first a problem as regards the licence rights that had been intended to be granted to Icebreaker 1 over the film Young Alexander.    It appeared that although Kent Walwin believed that in February 2004 YAL had assigned its rights to SPAM, such that SPAM was, as assumed, the appropriate party to grant the 10 year licence rights to Icebreaker 1, no document had in fact been executed passing the rights from YAL to SPAM. An assignment was executed in November 2004, back-dated 12 February 2004 on the basis that Kent Walwin, who signed the document on behalf of all three parties, YAL, SPAM and Centre, believed that such a grant of a licence to SPAM had been orally agreed in February. 
78.     There were then two further problems.  First it emerged that Dan Skinner, who had written the original screenplay for Young Alexander had not granted rights to YAL in the first place. An option had apparently been granted, but the option had lapsed without being exercised, so that YAL had not acquired the rights that it had purported to pass to SPAM.  It secondly (and rather more seriously) emerged, after the filming had been completed and the film was ready to be distributed that Centre had granted rights to various third parties that were inconsistent with the rights of Icebreaker 1.  There has accordingly been litigation, and we were told that at present the completed film material is in storage, pending clarification of who has rights over it, and the outcome of the litigation.  The film has therefore not yet been distributed and has generated no income. 
79.    Not entirely surprisingly, these developments resulted in the breakdown of relations between Caroline Hamilton and Icebreaker 1 on the one hand and Kent Walwin and Centre on the other.  Icebreaker 1 thus terminated the HDA, whereupon Bank of Scotland exercised its rights over the Centre blocked deposit, in order to discharge its own liability to Icebreaker 1 under the Letter of Credit.  Bank of Scotland may then have applied Icebreaker’s rights under the Letter of Credit in discharging the non-recourse loan liabilities of the Members. 
80.    Since the Option had of course not been exercised, we understand that Icebreaker 1 had reported its receipt of the Final Minimum Sum (i.e. the amount discharged by the Letter of Credit) as income for tax purposes, but apparently Icebreaker 1 simultaneously entered into a new sub-distribution agreement with a different distributor.   Whether payments under the new distribution agreement were claimed to constitute further trading expenses we are also not entirely sure, but we believe that payments were made, and so treated, with the result presumably that no or less tax would in fact have been paid on the income receipt under the original Letter of Credit.   Whether only a proportion of the original loans was repaid or whether new loans were drawn down to fund the payments to the new distributor we are unclear.   The correctness of all these assumptions is not presently material, and would of course in part depend on whether the receipt under the Letter of Credit was indeed an income receipt, and whether also the expenses incurred under the deal with the new sub-distributor were allowable trading expenses or not.  It was mentioned finally that in 2008, Icebreaker 1 had sold its business, possibly on the exercise of an option equivalent to one or other of the options in the structure under the HDA, and presumably the business was sold to the successor head distributor that replaced Centre.
The evidence
81.     Extensive factual evidence was given by Caroline Hamilton.   Factual evidence was also given by Carol Cheesman, the accountant and auditor to Icebreaker 1, by Tim Jeynes, a one-time employee of various of Kent Walwin’s companies, and from August 2004 an employee of IML and no longer of Kent Walwin’s companies, and finally by Chris Hutton who had had other dealings with Kent Walwin. 
82.    It will be clearest to record important elements of the evidence largely by reference to various topics.   Where relevant, we will give our findings of facts against each.      
The role of Caroline Hamilton
83.    Caroline Hamilton was the most important witness so far as the Appeal was concerned.   In addition to being a key member of the Icebreaker team, the owner and managing director of IML, she also became a Member of Icebreaker 1, contributing capital, including the element funded by the limited recourse loans, of £166,667. 
84.    Initially, and until well past the date 5 April 2004, IML and Caroline Hamilton worked from the same small office as Kent Walwin and his various companies, though in separate rooms.  As the Information Memorandum indicated, Caroline Hamilton, IML and Kent Walwin and his companies were working very closely together both in February and April, and indeed well after April 2004, and it was appropriate to describe them all as “the Icebreaker team”.   In the very last days prior to 5 April 2004, when the extensive documentation was being refined and agreed, Caroline Hamilton essentially represented IML, and Icebreaker 1, while Kent Walwin attended to the interests of his companies, YAL, SPAM and Centre.
85.     We think it fair to summarise matters along the lines that Kent Walwin, albeit conversant with film structures, was essentially the producer and expert in making all the numerous arrangements for the production of films work in practice, while Caroline Hamilton’s strengths were more in the financial structuring aspects of the transactions between IML, Icebreaker 1 and a number of Kent Walwin’s companies.   
The nature of the relationship between Icebreaker 1 and Centre
86.     A considerable amount of the evidence was directed to establishing that Centre acted “as a principal”, and that it was not an agent.  
87.     The uncontested evidence from Chris Hutton, who had no contact with any of the Icebreaker 1 transactions, but who did have dealings in relation to other films with Kent Walwin in which the two men contemplated using an Icebreaker structure, and indeed did at a later date Chris Hutton himself did use an Icebreaker structure.   Referring to the role of the equivalent company to Centre in these other transactions, Chris Hutton concluded his Witness Statement with the following two sentences:
“As stated above, I subsequently became a director of companies which became involved in the Icebreaker structure as a head distributor/principal exploitation company, providing similar services to Icebreaker LLPs as those performed by Centre.   At no stage in my time as a director of those companies has it ever been contemplated that they would act in any role except as a principal on an arm’s length basis, receiving a fee for providing services to an Icebreaker LLP”.
There seems to us to be nothing particularly contentious in those statements, though we will comment below on the commonly used phrase, namely that of paying or receiving “a fee for providing services”.
88.      In her Witness Statement, Carol Cheesman made the following statement:
“As I have explained, it was my understanding that in the final arrangements agreed between Centre and Icebreaker 1, Centre was acting as principal in its own right.    The fee that was charged to Icebreaker 1 was not conditional on corresponding costs being incurred by Centre; the arrangement was not one of a simple reimbursement of Centre’s costs which might have regard to the amount and timing of those costs from Centre’s perspective and accordingly it was correct to write-off the cost as it was incurred by Icebreaker 1”.
Ignoring at this point the correct accounting treatment of the costs borne by Icebreaker 1, we nevertheless have more difficulty with this interpretation of the HDA than with Chris Hutton’s simpler proposition.   The first sentence just quoted is, we accept, correct.  Centre was in no sense acting strictly as an agent.  Thus when it entered into arrangements with sub-distributors, there was no resultant contractual arrangement between Icebreaker 1 and the sub-distributors.  There was simply a contract between Centre and the sub-distributors. 
89.    Carol Cheesman’s second sentence is, however, wrong in our view.  The critical provision of the HDA that enabled Centre to charge Icebreaker 1 was Clause 2.4, which required Centre to deliver “invoices for all Exploitation Costs”, and required Icebreaker 1 to pay such invoices.  Even the last sentence of Clause 2.4, quoted at paragraphs 8 and 56 above, namely the sentence with the blank in it, made it clear that the amount intended to be inserted in the blank was paid “in respect of such Exploitation Costs”.  We have already made it clear that the definition of Exploitation Costs in Schedule III to the Agreement repeatedly referred to “the following items of costs and expenses (net of recoverable VAT) incurred in connection with the exploitation”, with then each of the following 13 items being prefaced by the words “all costs and expenses of …” or other equivalent words. 
90.     It seems to us to be plain that the nature of the charging relationship between Centre and Icebreaker 1 was that Carol Cheesman was wrong when she said that Centre’s ability to charge was not dependent on corresponding costs being incurred by Centre.   In our view the following is how the contract operated.  Centre could charge for either in-house costs incurred by it on the identified 13 matters, or it could charge for third-party costs paid or incurred.   We accept that where in-house costs involved time spent by Kent Walwin and others, it might have been more difficult to calculate which costs were attributable to the identified matters, but that is still what the agreement required.  We consider for instance that it would have been wrong for Centre to invoice Icebreaker 1 by saying that “we have incurred a third-party cost of £100, and we are going to invoice Icebreaker 1 for £110, regardless of the fact that we have not incurred in-house costs of an additional £10”. We accept that if the agreement had said that Icebreaker 1 would pay a flat fee of £1,273,866 to Centre for procuring the production and distribution of the 8 screenplays, or just Young Alexander, that amount would have been due.   But that is not what this contract said.   Had Centre thus invoiced Icebreaker 1 by saying, “We have not yet incurred costs of any particular amount, but please pay £1,273,866 for services”, that amount would simply not have been due.  Had the blank figure in clause 2.4 actually been filled in, it might have been arguable that that amount was contractually due, but even this would have been highly debatable when the amount in question was asserted to be “in respect of such Exploitation Costs”, if such Costs not been paid or incurred. 
91.   Our above interpretation of the contract makes perfectly good sense, even though it implicitly means that Centre could not build in any profit margin at the stage of arranging, and meeting the costs for, the production and distribution.   A profit margin at that stage would indeed have made little sense.   The essence of the deal was that at the early stage the parties simply paid for the costs of production and distribution.    Centre’s profits would arise later when distribution revenues were received, to the extent that Centre had not diverted to others its retention of the first 30% of all distribution revenues, and its share of the 70% balance of those revenues, after paying Icebreaker 1 its 250/1040 entitlement. 
The arrangements with Bank of Scotland, and who knew that the payment to Centre was to be split and paid to separate accounts
92.     Very considerable evidence was given about the various transactions involving Bank of Scotland, though not from any representative of the bank. 
93.     It seems that the first contact involved Tim Jeynes and Caroline Hamilton travelling to Edinburgh in January 2004 to meet a Gavin Stewart and Ron Yeats of Bank of Scotland.  They explained to the bankers (according to Caroline Hamilton’s Witness Statement “how the proposed Icebreaker Fund was intended to operate and agreed it might be possible to utilise a banking structure both to finance the loans for the members and to secure the minimum payments from Centre to the LLP.”      Caroline Hamilton “liked this idea, especially as Centre did not seem to be getting anywhere with the possible insurance arrangements.”
94.     It was clear even at the initial meeting that Bank of Scotland was making the fairly obvious point that the banking turn could be reduced if one bank alone was to provide the members’ loans and the Letter of Credit facility, and to take the Centre deposit to secure the exposure under the Letter of Credit. Following further discussions in London around 19 February 2004, involving Kent Walwin, Tim Jeynes and Caroline Hamilton, it appears that the bankers were told what facilities were required and they agreed to seek credit approval from the BoS credit committee.    Such approval was obtained around March 12 for a commitment of £50 million.   In earlier extracts quoted in paragraph 49 above from the bank’s internal papers, it is absolutely clear that the banking arrangement for which approval was being sought, and for which approval was given, was a zero risk structure, involving the minimum banking turn, based on the understanding that the obligations under the Letter of Credit would be secured by a charge over a Bank of Scotland deposit placed by Centre, and that Icebreaker 1’s assets generally, and its rights under the Letter of Credit, would all be charged in support of the members’ borrowings.  Unless thus the bankers obtained approval for a nil risk structure, and eventually put the steps in place that implemented that structure precisely, all as a result of the most appalling misunderstanding as to what Kent Walwin, Tim Jeynes and Caroline Hamilton had indicated at the February meeting that they wanted, it seems clear that Caroline Hamilton knew that the arrangement with Bank of Scotland would involve Centre in placing a deposit with Bank of Scotland to secure the bank’s exposure under the Letter of Credit.   It also appears that it was in the course of these discussions that Bank of Scotland indicated that its fee would be 1.6%, though it was not until later that it became clear that that was split in the way already described. 
95.      There were naturally Loan Agreements evidencing the loans made by Bank of Scotland to the individual members of Icebreaker 1.  In an early Clause of the Loan Agreements, dealing with “Reason for Loan”, the agreement said:
“The proceeds of the Loan will be used as part of your capital contribution to the LLP as a member and the LLP will use this capital in the normal course of its business including in or towards the cost of acquiring and trading in licensing and distribution rights…”
Since Bank of Scotland was a party to these Loan Agreements, and Bank of Scotland knew that the entirety of the moneys loaned would be deposited back by Centre indirectly to secure the liability under the non-recourse loans, the assertion in the passage quoted above seems to us to be somewhat questionable.
96.     In the afternoon of 5 April 2004, there was a meeting at the offices of Trowers & Hamlins, the solicitors acting for Icebreaker 1, at which all the documents (at least 26 documents) were executed.  During the course of that meeting there were apparently several telephone calls between those in the meeting room (including Caroline Hamilton, Kent Walwin and two solicitors from Trowers & Hamlins) and Ron Yeats of Bank of Scotland.  It was said that Ron Yeats had rung up, in some panic, saying that people had forgotten to document the payment instructions to Bank of Scotland, and so this was done over the phone, with Ron Yeats dictating to Caroline Hamilton (who hand-wrote the instructions) the text that was required by the bank.   
97.    The first instruction was from Caroline Hamilton, instructing Bank of Scotland to pay Bank of Scotland £17,024 out of Icebreaker 1’s bank account.  This was the amount already explained at paragraph 44 above.   
98.   The second hand-written instruction was from Caroline Hamilton of IML to Bank of Scotland to “draw down the funds under the prospective members’ loans and pay such amounts into Icebreaker 1’s bank account”.

99.     The third instruction assumed that Icebreaker 1’s bank account would have in it the gross contributed capital (30% coming directly from individual members and 70% from Bank of Scotland), whereupon Caroline Hamilton instructed Bank of Scotland to pay Centre £1,273,866, SPAM £46,950 and IML £170,000.   The instruction said that “These amounts are in accordance with the attached invoices”.
100.     The attached invoices were all produced in identical typeface.   The one from Centre simply said “Re:  Head Distribution Agreement dated 5 April 2004”, followed by the words and figure “Amount due £1,273,866”.  The invoice then gave an instruction to remit to Bank of Scotland, and gave an account number, and the bank’s relevant Sort Code.    It, and the other invoices, were not signed by anyone.
101.    IML’s invoice rolled together its two fees and simply said “Re:  Administrative and Advisory Services.    Amount due   £170,000.”
102.     Caroline Hamilton then said that the phone was passed to Kent Walwin so that he could give further instructions to Bank of Scotland.  The written form of these instructions was not in evidence, which was not particularly surprising in that it was a document of relevance to Centre.   Nevertheless it was clearly asserted that Bank of Scotland wanted Kent Walwin’s instructions, and the result of this part of the phone call was that the amount that was awaiting payment to Centre, i.e. the £1,273,866, was dealt with in a different manner from the way indicated to be required in Centre’s invoice referred to in paragraph 100 above.   Under the revised instruction that Kent Walwin gave to Ron Yeats, £1,064,000 was paid to the blocked bank account of Centre with Bank of Scotland, and £209,866 was paid to another of Centre’s bank accounts with Bank of Scotland.  When we were shown bank statements, neither of these accounts bore the same number as that mentioned in the invoice at paragraph 100 above.  Little hinges on this, though in view of the numerous last minute typing slips in the documentation, it appears entirely likely that the account number in the invoice, namely 00251289 probably contained a typing slip for the account into which the £209,866 was paid, namely account no 00251298.  It is immaterial whether this speculation is right.  The salient point is that prior to its payment, the £1,064,000 element of the total payment from Icebreaker 1 was diverted into the blocked account. 
103.    Caroline Hamilton never admitted that she knew that part of Icebreaker 1’s payment was to be paid immediately, and had to be paid immediately under the security arrangements, into a separate blocked bank account.  The following exchange between counsel for HMRC and Caroline Hamilton is worth quoting at some length:
Counsel:  “You knew the whole scheme that was being set up on 5 April incorporated the requirement that £1,064,000 gets locked in an account with Bank of Scotland in order to give the letter of credit, which the bank also required, to give the borrowings to the members”.
Caroline Hamilton:  “I’m sorry to ask you to do that question again, but there were quite a lot of things in there that you wanted me to agree to and I’m not sure I picked them all up.”

Counsel:   “You knew that essential to the members getting their loans, was that there would be security that the bank could call upon for their repayment?”
Caroline Hamilton:  “I knew that as security for the loans, it was essential that the LLP gave a charge”.
Counsel:  “Yes?”
Caroline Hamilton:  “To the bank, yes”.
Counsel:   “And you knew that it was essential that the LLP got a letter of credit that was charged in the sum of £1,064,000, didn’t you?”
Caroline Hamilton:  “I don’t think it was essential that it was a letter of credit.   They needed to have security for the minimum amounts coming from Centre but I don’t think it was essential it had to be a letter of credit.”
Counsel:  “Well, we can examine the documentation in due course about the charge documents and the like.
[But] you knew, on 5 April, [that the money] was coming round the circle because the borrowed monies by the members were going to be deposited by Centre in order to get that letter of credit, didn’t you?”
Caroline Hamilton:  “I knew the borrowed monies were going to the LLP and the LLP was paying Centre 1,273 Million.   And I knew that Centre was obtaining a letter of credit.    I knew that it was obtaining the letter of credit from the Bank of Scotland as it happened, but I didn’t know that the Bank of Scotland was a requirement of the lender, that the letter of credit had to come from the Bank of Scotland.”
Counsel:  “You knew that on 5 April that was the route that it was following, didn’t you?”
Caroline Hamilton:  “I knew that Centre would be required to put up cash security for a letter of credit, yes.”
Counsel:  “And as you discussed things with Kent Walwin, who you shared an office with, you knew that that security being offered by Centre was coming from this sum of money that the members had borrowed, didn’t you?   It was going to be locked up in a Bank of Scotland account?”
Caroline Hamilton:  “Well, I didn’t  - from my discussions with Kent  -  well, from my knowledge of Kent, I knew that Centre and Kent had many other resources.    He could have found that money from anywhere.    He operated Centre and Mediabus, which were reasonably substantial operations and they had income.    He also had significant private wealth.   He had been left a lot of money by his family and his other business was a property development business.    So there was always money around.   In addition  -  actually, what he talked to me about most was the possibility of selling revenue participations, about -  I make reference to that in my Witness Statement, but actually, that might be a source of cash to put on deposit.   So there were  -  all sorts of different ways that he could have put the money in”.
104.     At this point, it will be appropriate to give our findings of fact in relation to the above evidence.   The critical point is whether we accept the proposition that so far as Icebreaker 1 was concerned, it was paying one sum essentially into one bank account of the recipient, and that it was only as a result of a subsequent different instruction given by Centre, as regards which Icebreaker 1 was ignorant and indifferent, that the £1,064,000 element was paid into the blocked account.  
105.     Without hesitation we conclude that we do not accept this gloss on the facts and the payment mechanics.   
106.     It is first inconceivable that Bank of Scotland was simply waiting to be told how Centre wanted the money dealt with.   Bank of Scotland were offering a nil risk deal under which it was clear that a blocked deposit would be placed by Centre, and we consider it inconceivable that the Bank of Scotland’s loans would have been advanced, had it not been absolutely agreed that the £1,064,000 element, exactly matching the Bank of Scotland’s loans, would come straight back to Bank of Scotland.  Whilst thus the evidence given suggested that it was Kent Walwin who gave instructions to the bank, we conclude without hesitation that that instruction was one that had to be given under the arrangements with Bank of Scotland and both Caroline Hamilton and Kent Walwin knew this.  This was clear following the evidence given about the mid-February meeting attended by Caroline Hamilton, Tim Jeynes and Kent Walwin and the Bank of Scotland representatives.  It was also absolutely obvious in the light of the Bank of Scotland’s internal paper, and the credit clearance given on the basis that the transaction was nil risk, and that the margin was minimised by one bank dealing with all the transactions.
107.   There is another very curious aspect to the banking instructions and the invoices.   If Centre was not party to an endeavour to create the misleading impression that Icebreaker 1 innocently expected that its payment would all go to one Centre bank account, and it was Centre alone that gave the different instructions, and diverted the £1,064,000 element to the blocked account, why was it that Centre’s initial invoice indicated that all of the £1,273,866 should be paid to one bank account, when this is allegedly not what Centre wanted to happen, and when Centre would have known that it was going to modify that instruction moments later?  The only explanation that we can see for this oddity was that Centre was assisting Icebreaker 1 to create the misleading impression that so far as Icebreaker 1 was concerned it paid one amount for services, and that it was only as a result of an unknown feature of Centre’s separate dealings with the bank that the vast majority of the payment had to be diverted to the blocked account.    
108.   We consider that the evidence that Caroline Hamilton gave, in the final paragraph quoted at paragraph 103 about all the other ways in which Centre might have secured the Bank of Scotland’s obligations under the Letter of Credit, was irrelevant for two reasons.  Firstly Bank of Scotland had only obtained credit approval, as Caroline Hamilton knew, for a nil risk deal.  Thus even if Centre had been able to provide other security to Bank of Scotland, this could not have been acceptable without Bank of Scotland seeking revised credit approval for a quite different proposition.  That could certainly not have been done on 5 April 2004.  Furthermore, since the filming and distribution of Young Alexander went seriously off the rails because Kent Walwin sold participations in income to other entities in order to fund the filming and distribution that overlapped with the rights of Icebreaker 1, with the result that the film has never been released and is the subject of current disputes, this seems to throw some doubt on the unsubstantiated, and indeed the commonplace type of assertion, that Centre could have provided the security from many other unidentified sources. 
109.    Without at this stage exploring the degree to which this conclusion may or may not be significant, we have no hesitation in saying that all parties at the Trowers & Hamlins meeting on 5 April 2004 must have known how the funds would end up being banked, and that the claims about the second part of the phone call, and the surprisingly changed banking instructions were simply play-acting.  
110.     We feel that we should specifically address the issue of whether we concluded that Caroline Hamilton’s evidence was wholly trust-worthy.  We believe that she knew perfectly well that Centre had to place the blocked deposit with Bank of Scotland.   We believe that she felt entitled to say that she did not know this because the technical arrangements between Icebreaker 1 and Centre made it theoretically possible that the funds could have been placed with a different bank or (assuming other resources and ability to secure AA- bank guarantees without placing a collateral deposit) Centre could technically have delivered the AA- guarantees in other ways.     She knew that that was not going to happen, but theoretically it could have done, and that is why she felt able to say that she did not know with absolute certainty that the blocked deposit would be placed, and indeed had to be placed, with Bank of Scotland.   Whilst we believe that this is what she felt, we do conclude that it made that part of her testimony wholly unrealistic. 
What did Icebreaker 1 pay for when it paid its £1,273,866 to Centre
111.   This issue was both contentious, and central to the case advanced by the Appellant.    It is important thus to consider it carefully. 
112.    HMRC’s contentions addressed three aspects of this question.  First it was contended that Icebreaker 1 paid £1,064,000 simply for the entitlement to the “certain payments”.  This was confirmed by the way in which that amount went into the blocked account, and so was never available to fund any exploitation costs.    Secondly, Icebreaker 1 should have been billed only in respect of costs paid or incurred by Centre.  It was not just paying some stated fee in return for services.  Thirdly it was relevant to look to the various items of costs incurred by Centre, and thus funded by Icebreaker 1, to enquire whether they were on film production or distribution.  That might be relevant if the right analysis was that one category of those costs was more likely to rank as capital expenditure, while another was revenue expenditure. 
113.    Before addressing the issue of how the Appellant and Caroline Hamilton described the nature of what Icebreaker 1 paid for when it paid its £1,273,866 to Centre, we should refer to some background facts that were stressed.  In this regard, Caroline Hamilton summarised the way in which Kent Walwin had spent much of 2003 and early 2004 working on putting arrangements together for the filming and, to a lesser extent, the distribution of Young Alexander.  We certainly accept that considerable work must have been done in making the arrangements for the filming.   We were told how Kent Walwin had sought to enter into deals with German and Canadian companies for the production work, and how, in the event, arrangements had been made with Greek and Middle East interests for the filming, which was to be done in the Middle East.   We accept that since filming actually commenced shortly  after 5 April 2004, considerable work must have been done before that date by Kent Walwin.  Quite how all this was booked and funded, and which company incurred this expenditure, we have absolutely no idea, but it would have involved a substantial incurring of costs on the sort of items listed in Appendix III to the HDA. 
114.   Consistently with this, Caroline Hamilton asserted that the work that Kent Walwin had done was worth every bit of the £1,273,866 that Icebreaker 1 had paid. 
115.    We now quote the following exchanges between counsel for HMRC and Caroline Hamilton to illustrate what the Appellant and Caroline Hamilton said that Icebreaker 1 paid its £1,273,866 for:
Counsel:   “You say you paid 1.273 million exploitation costs?”
Caroline Hamilton:  “Yes”.
Counsel:  “1.064 million of that wasn’t for exploitation costs, was it?”
Caroline Hamilton:  Yes, the whole amount that we paid to Centre was for their services in exploiting the rights that we had got. Those services comprised  -  the organising and arranging and trying to get something off the ground in order that the product could be made and that is what we paid.   So it was an exploitation cost.  It was an invoice from Centre for exploitation costs to the LLP”
Counsel:   “So you are telling us that the partnership expected the whole of that 1.273 million to be spent on the sums or the items in Appendix III of this HDA, are you?”
Caroline Hamilton:  “No, I’m not saying that.  I am saying that we paid Centre that amount of money for their services.  How they applied that amount of money was up to them but we paid that amount of money to Centre for their services.”
Counsel:    “Ms. Hamilton, that won’t do.    Paragraph 2.4 of this agreement says this:
“The LLP undertakes to pay these amounts in respect of exploitation costs”
Caroline Hamilton:  Yes, and Centre has issued us with an invoice for exploitation costs of £1,273,866.”
Counsel:   “You’ve just said to me that you are not saying that you expected them to spend the whole of that money on exploiting the rights.   Were they or were they not going to spend it on exploitation rights?”
Caroline Hamilton:   “There’s a fee  -  the LLP had incurred the cost with Centre of £1,273,866 because Centre had provided those services to the LLP.    And therefore it gave us an invoice for that.    How Centre then used the money itself was up to it”.
116.    This difference of approach between HMRC and the Appellant was also reflected in another exchange that we will now quote between HMRC’s counsel and Caroline Hamilton, where the former was suggesting that the Appellant had switched its terminology at some time during the discussions with HMRC, and had ceased to refer to incurring Exploitation Costs and had started talking about “paying fees for services”. 
117.     Caroline Hamilton sought to explain this claimed “change of tack” by saying that the change was merely one of terminology.   Icebreaker 1’s “cost” was the same thing as the “fee received” by Centre.   One could thus refer to the payment of a fee for services, and it meant the same thing as a cost incurred by Icebreaker 1.  To illustrate this, we will quote a suggestion put to Caroline Hamilton by HMRC’s counsel, and Caroline Hamilton’s answer:
Counsel   “I’m going to suggest to you this phraseology “charge a fee” evolves in this document in 2006 and is your new spin on what was being paid for.”
Caroline Hamilton.  “We talked a bit about that yesterday, I think.    The expression “a fee” evolved because it was clear that the Inland Revenue was not completely understanding clause 2.4.    The agreement had been that Centre would submit an invoice to the LLP for exploitation costs.  I see the costs from the LLP’s point of view.   It was a fee to Centre.   We just happened to describe it in the Head Distribution Agreements as a cost to the LLP”. (our emphasis)
118.     Somewhat later, the same point was the subject of this exchange:
 Counsel  “Why were you, throughout, now talking about fee for services rather than exploitation costs?”
Caroline Hamilton   “Well, as I said, it was a fee for services.    It was also described in the Head Distribution Agreement as a head  -  as an exploitation cost to the LLP”.  (our emphasis)
119.   We consider that HMRC’s counsel was correct.   Referring back to the wording that we contrasted in paragraph 90 above, matters would have been different if Icebreaker 1 had simply undertaken to pay a fee to Centre in return for the services of producing and distributing Young Alexander.   Even then we would have considered other aspects of the contract and the facts before concluding that the whole amount was really paid as a fee, but in the present context the critical point that HMRC’s counsel repeatedly made, which Caroline Hamilton failed to address, was that the HDA did not refer to “costs” simply from the perspective of Icebreaker 1.  Centre was only entitled to invoice Icebreaker 1 for items that were costs, whether “in house” costs or third party costs, from Centre’s perspective, and Icebreaker 1 was only required to pay when invoiced for costs of that nature. 
120.    The issue of what Icebreaker 1 paid its £1,273,866 for is too central to our decision to give findings of fact, as such, in relation to this issue at this point.   We will, thus, now turn finally on this topic to some relevant documentary evidence. 

The documentary evidence in relation to the application of the £209,866 element by Centre
121.    We have already said that we were never given any information as to costs that Centre may have incurred (essentially in preparation for filming) prior to 5 April 2004.   We were however shown the bank account details of the new account that Centre opened with Bank of Scotland to which the £209,866 element was credited on 5 April.      These bank account statements indicate that:-
1.	by 27 April, approximately £100,000 had been paid away, £10,015 in discharging a liability on a Diners Club card, and roughly £90,000 in making four payments to YAL; 
2.	during May, four further payments of roughly £60,000 were made to YAL, and one of £35,000 to a recipient called “Picture Product”; and 
3.	by 28 May, only £14,218.38  was left on the account. 

Other evidence as to what expenditure Centre had met or incurred prior to 5 April 2004
122.     We should also mention that Carol Cheesman suggested that all the work in making arrangements for the distribution of Young Alexander must also have been done before 5 April 2004, because it was industry practice to tie up the distribution before embarking on production and filming.  Since thus filming commenced immediately after 5 April, the distribution arrangements must have been made before then.     We can see that there might be advantages in arranging the distribution before the filming (in that the finished work will then be largely pre-sold) and correspondingly advantages in arranging matters the other way round (in that it is easier to sell something that is available and finished, than a speculation).   Without knowing best practice in the film industry, it actually appears to us that Carol Cheesman must have been wrong in her assumption.   We certainly accept that Kent Walwin had provided Caroline Hamilton with a list of distributors in numerous countries, with estimated figures as to how much might be obtained from each.    This list however was not of negotiated deals, but just a list of estimates based on past experience, and we were told that it was only much later in 2004 that Kent Walwin was able to mention three deals that had, by then, been negotiated and we were given the figures involved in those cases.   The payments would only be made when the film was ready for distribution.    From this we infer that little work had actually been done on planning and negotiating distribution by 5 April 2004. 
Caroline Hamilton’s evidence in relation to the services provided under the two agreements between Icebreaker 1 and IML
123.   Caroline Hamilton gave considerable information about each of the 14 headings in the Appendix to the Administrative Agreement (which we summarised in paragraph 71 above), commenting on whether services were in fact rendered under each heading, and if so whether they were rendered before or after 5 April 2004.
124.     She said that the services at item 1 were rendered, but mostly after 5 April. She said that considerable work was done in relation to the project proposal, item 2, and while it was said that this work was to be done “for each proposed acquisition”, it appears reasonable to suppose that most of this work had been done by 5 April.   She said that work was done in preparing material for members, at item 3, though most of this was done by e-mail since there was never a members’ meeting as such.  Item 4 in practice involved only liaison with the Auditors and, as with item 1, most of this was done after 5 April.  One letter apart, item 5 involved no activity.  Item 6, which obviously sounds routine and annual, was done.  Item 7, admitting new members, was done, though this appeared to relate only to dealing with the individual members on 5 April 2004 and dealing with their capital contribution cheques.    No income had been received.   Items 8, 9 ,10 and 11 were not done.  12 appeared to be a repetition of item 3.   13 has proved irrelevant, and 14 was done before and after 5 April. 
125.    Caroline Hamilton’s evidence in relation to the Advisory Agreement was that most of the work done under this agreement, relating to the advisability of entering into agreements with SPAM and Centre, the overall commercial strategy, and the choice of licence rights to be acquired, had been done before 5 April 2004. 
Our findings of fact
126.    We have already indicated some of our findings of facts.  In the following paragraphs we will simply re-state the most significant findings of fact, and one or two observations (that we accept are not particularly material to our decision).
The placing of the deposit by Centre with Bank of Scotland
127.    We have already indicated that all parties knew on 5 April 2004 that Centre would place the £1,064,000 element of Icebreaker 1’s total payment in a blocked deposit account, charged in support of the bank’s obligations in relation to the Letter of Credit. Bank of Scotland might have been prepared to do a different deal, involving perhaps a Letter of Credit to be issued by another bank with a credit rating of, or better than, AA-, secured by a deposit with that bank or in some other way acceptable to that bank.   But that is positively not the deal that Bank of Scotland was in fact doing; not the deal described in the internal memorandum; not the deal for which credit committee approval had been obtained; not a deal that Bank of Scotland could have switched to at the last minute; not the deal that Caroline Hamilton and Kent Walwin knew that Bank of Scotland had sanctioned; and most certainly not a deal that anyone thought for an instant could or would be done on 5 April 2004.  The fiddling with different banking instructions on 5 April was play-acting, this being obvious, and confirmed by the unrealistic way in which Centre issued a wrong indication of the account to which the funds under its total invoice were intended to be credited, knowing that this is not what it intended, and that the instruction would have to be changed.  That can only be explained by the reality that Centre was trying to assist Icebreaker 1 in its attempt to conceal the fact that it knew that the £1,064,000 element simply had to go straight into the blocked Bank of Scotland deposit account. 
The commercial expectations
128.     We deal first with two observations advanced by counsel for the Appellant, namely that the transactions were commercial transactions, largely motivated by the hope and belief that the members of Icebreaker 1 would make a lot of money, and secondly the proposition that the transactions conferred merely a deferment of tax, not any sort of avoidance. 
129.     We accept that there were real commercial aspects to the transactions, and that Caroline Hamilton and Kent Walwin both genuinely thought that significant profits might be made from Young Alexander, and the Find a Million game show, one of the other 7 titles (albeit that no work was done on this or any of the remaining 7 titles).    
130.      It is of very little relevance to try to identify what actually went wrong.   It was certainly suggested that the problem derived solely from the fact that in some way SPAM granted rights over the screenplay of Young Alexander that clashed with the rights reserved by, or acquired by, Icebreaker 1 under the HDA.  There was also the problem resulting from the fact not only that YAL had not entered into any form of written agreement prior to the 5 April 2004 transactions to transfer its rights to SPAM, but more materially that the author, Dan Skinner, had not even granted rights over his copyright to YAL.  
131.     We make it quite clear that there was no evidence given in relation to the following point, but we do think that we should just record the speculation on our part that Kent Walwin’s problems may have derived in the first place from the fact that in the run up to 5 April 2004 Icebreaker 1 failed to raise even one third of the £5 million that was said to be the minimum required subscription in the Information Memorandum.      
132.     That speculation is not particularly material, though it would certainly explain why no further mention was made of the 7 other works that were licensed to Icebreaker 1, on which no distribution work was undertaken. 
133.     Although counsel for the Appellants stressed that the transactions would only result in tax deferral, rather than avoidance, we do not accept this claim at face value.    It was clearly hoped and expected that whether the exploitation of Young Alexander was particularly successful or not, the very likely “exit” for Icebreaker would be the exercise of the option (either by Icebreaker 1 or by Centre) for the sale of Icebreaker 1’s business to Centre, and it was expected that in that event, the receipts by Icebreaker 1 would be chargeable to capital gains tax at only 10%.   We accept that there were circumstances where the end result might only have been of deferment, but we consider that it was intended and hoped that from a tax perspective there would be a more attractive result than mere deferral.  The Information Memorandum made this plain, and this seems to us to be obvious. 
The tax planning aspects of the transactions
134.   Whilst no evidence was given as to any tax planning underlying the transactions, we consider that we should record the obvious point that all steps related to the £1,064,000 element were, we believe, directed to achieving the tax advantage of ramping up the ostensible expenses incurred on production and distribution.   In the event that this objective was successful it would have had the highly desirable tax effect that the value of the “up front” tax relief (very nearly 40% of the entire capital injected) would have been worth more than the money that the individual members would have had at risk.  Thus the tax subsidy would really have underwritten the investment.    

135.     The reason why we say that all steps related to the £1,064,000 element were designed to achieve this purpose is that, once we have reached our finding of fact that all parties knew that it was of the essence of the transactions that the £1,064,000 would be placed in the blocked deposit account, we are at a total loss to discern any non-tax effect that these steps and payments might have had.  Centre never in fact had the use of the £1,064,000 element, certainly not in the sense of outright fee payments that could immediately be applied in meeting production and distribution costs, and it never even had the use of the £1,064,000 element in the sense of borrowings that, pending repayment, could be applied in meeting production and distribution costs.    From the perspective of the members of Icebreaker 1, the only non-tax effect that we can discern that resulted from their having borrowed the £1,064,000 element, and having thus acquired the corresponding rights to the certain payments under the HDA was that they appeared to have an utterly pointless match of a borrowing on the one hand, and potential receipts that were effectively the equivalent of receipts under a secured loan of the same amount, save that the interest cost of the borrowing was slightly higher than the otherwise matching receipts.    
136.     Since the presumed tax advantage of trying to ramp up the “up front” tax relief is glaringly obvious, and we fail to see any other consequence or effect of the slightest significance that resulted from the money movements geared to the £1,064,000, it seems to us obvious that the tax motive was central to these steps.   We do not say that this of itself has any particular bearing on the tax treatment of the transactions.   We merely mention it, to balance the Appellant’s counsel’s suggestion that everything was commercially driven. 
137.     We appreciate that it is commonplace in “film schemes” for the investment proposition to be made more attractive to investors by their being offered a guaranteed element of some proportion of film revenues, in return for their spending on the production of the film.   Where this is achieved by the production company genuinely raising the money from investors for the production, with the guarantees then being procured either by the financial standing of the production company, by insurance, or through pre-sales of the film, it may then be appropriate to conclude that the money invested or spent has been applied in producing the film (with the appropriate tax consequences) and fair then to say that the guaranteed income may not undermine this analysis but simply diminish some of the risk.   But where the rights to the “certain payments” had nothing (in terms of source of funds, security, timing, or amount) to do with distribution income, and where those various receipts were secured on collateral deposits that every participant knew had to be placed, the picture changes.    It is no longer appropriate to conclude that the guaranteed income is just a credit enhancement of distribution revenues, with all the money initially paid being applied on film production, distribution or whatever else is asserted.   The conclusion has to be that Icebreaker 1 was acquiring two distinct rights, and making payments (rolled together to obfuscate matters) for those separate rights.  The case then becomes one of an endeavour to ramp up the apparent expenditure for tax purposes, achieved by what can fairly be called “mislabelling”. 
138.     We will address these points more fully when explaining our decision.   For present purposes, we are merely balancing what we see to be a realistic summary of the tax expectations against the Appellant’s counsel’s claim that the transactions were wholly commercial. 
The Appellant’s contentions in relation to points concerning the deductibility of the £1,064,000 element of the payment made by Icebreaker 1 to Centre
139.       The Appellant contended that:
•	it was wrong to look just at this element of the payment, since the whole of the £1,273,866 should be considered as one single trading payment;
•	in considering the deductibility of the payment, one should first pay attention to the wording under which it was paid, and this indicated that it was a payment for services;
•	one should not look at what Centre did with the payment;
•	the payment mechanics on 5 April 2004, and the feature that £1,064,000 only went into a blocked account when Centre gave different banking instructions was critical;
•	HMRC were wrong, on authority, to suggest that any suggested circularity in the payment arrangements for the £1,064,000 element (which was anyway not conceded) meant that the payment should be treated as not having been made at all; and
•	the decision in BMBF v. Mawson [2005] 1 AC 684 indicated not only that it would be wrong to disregard the payments, but the decision in that case that the payments had been made in the ordinary course of the trade meant that it would be wrong in this case to conclude that the payment had not been made for trading purposes.

The Respondents’ contentions in relation to points concerning the deductibility of the £1,064,000 element of the payment made by Icebreaker 1 to Centre
140.     The Respondents contended that:
•	the cases of McNiven and BMBF v. Mawson were not authority for the proposition that the payment of the £1,064,000 element had been made, and we should conclude that it had not been made;
•	it was nevertheless appropriate to look separately at the £1,064,000 element because this amount had simply been paid into the blocked deposit account to fund and secure payments that had nothing to do with Icebreaker 1’s trade of film distribution, and consequently had not been available to be applied in any way in that trade;
•	everyone, including Caroline Hamilton, knew that £1,064,000 of Icebreaker 1’s payment to Centre had to be paid by Centre into a blocked deposit account with Bank of Scotland under the transaction negotiated with that bank; and
•	the last minute changes relating to the reallocation of roughly £250,000, and how that was to be split between payments to SPAM and Centre, and the existence of the figure of 250 in the fraction relevant to the share of film distribution income to which Icebreaker 1 was to be entitled all indicated that only £209,866, and therefore none of the £1,064,000 element, had been spent on trading purposes by Icebreaker 1.

Our decision in relation to the tax deductibility of the £1,064,000 element as a trading expense of Icebreaker 1’s trade
141.      Icebreaker 1 claimed the whole of the payment that it made to Centre on 5 April 2004 as a trading expense for the relevant period.   In its Closure Notice, HMRC simply disallowed the entirety of that payment as a trading expense.   No reason was given, and even when in the subsequent letter referred to in paragraph 15 above, HMRC explained how the disallowance (of everything except relief for £11,900) had been arrived at, this explanation had no bearing on the total disallowance of the payment of £1,273,866 made to Centre.  The detailed calculation related merely to the quite separate payment or payments to IML. 
142.     HMRC has argued much of its case on the basis that it is realistic to split the single payment of £1,273,866 into what we have defined as the £1,064,000 element and the £209,866 element.  The argument as regards both elements remains that neither of them was tax deductible as a trading expense, in the year to 5 April 2004.
143.   HMRC’s first argument in relation to the £1,064,000 element is that the £1,064,000 element was simply not paid at all, because of the circularity of the money flows.    We reject that argument.    We consider that on the basis of the judgment in MacNiven v. Westmoreland Investments Ltd [2003] 1 AC 311, we must conclude that the whole of the £1,273,866 had been paid.  Should HMRC wish to revisit this question in any appeal, we have made clear the findings of fact that might be relevant in relation to that matter. 
144.     HMRC’s second argument was that it was still appropriate to deal separately with the payment of the £1,064,000 and the balance of £209,866, and in addressing the £1,064,000 element, they contended that this payment was made to acquire the rights to the “certain payments”, and so had nothing to do with Icebreaker 1’s trade.  In response, the Appellant contended that we should not look beyond the assertion in the HDA that the whole of the £1,273,866 was paid for services, and that we should address clause 4.1 which said that:
“In consideration of the rights and benefits obtained by Centre under this Agreement, Centre hereby undertakes and agrees to pay the Annual Advances and Final Minimum Sum to the LLP on the dates specified in Appendix II”. 
145.     We decide that it is appropriate to deal separately with the £1,064,000 element of the payment, and we decide that that element of the payment was not made for trading purposes.  Before giving our reasons for this conclusion, and for the feature that we will later conclude that other elements of the total payment were tax deductible, we should observe that we are not losing sight of the tax principle that deductible payments must be made wholly and exclusively for trading purposes to be allowable.   This rule is applicable to a payment that produces a service or a benefit that has mixed trade and not trade aspects, such as the barrister’s dark clothing, required for court work but also simply to be dressed.  We are dealing here with a different point, of one payment that secured two or more quite distinct elements of consideration.   It is appropriate to split that, and to address what service or rights and benefits each element of the payment secured. 
146.     The first reason why we consider it appropriate to split the total payment and to conclude that the £1,064,000 element was not paid for trading purposes is that Icebreaker 1 clearly acquired the right to the “certain payments” under the HDA and those rights were all totally unrelated to the production and distribution of the film, and so unrelated to Icebreaker 1’s trade. The payments were due, regardless of whether there were ever any film distribution receipts, and there was no relationship (in the sense of adjustment to payments, timing or source and funding for payments, or security for the payments) between the rights to the “certain payments”, and the possible receipt of film distribution income.  Having identified those acquired rights, it is realistic to attribute the payment of £1,064,000 to the obtaining of the relevant rights because this is the amount that any entity would require for granting the rights described.  In addition, our conclusion that all parties knew with absolute certainty that the deal being implemented on 5 April 2004 was one under which £1,064,000 had to be credited by Centre to the blocked account that delivered and secured the “certain payments” reinforces the conclusion that the payment of that element secured those very rights.   It naturally followed that the £1,064,000 was not available to be spent on film production or distribution, even in the sense of Centre being able to use borrowed money for that purpose. 
 147.      The second reason we conclude that the payment of the £1,064,000 element had nothing to do with Icebreaker 1’s trade is that we agree with counsel for HMRC that the origin of the fraction of 250/1040 relevant in dividing 70% of film distribution income derives from the fact that the figure of 250 mirrored all that Icebreaker 1 had contributed towards Exploitation Costs on Young Alexander.  In other words it aggregated the £46,950 and £209,866 and treated that figure as the numerator in the fraction for dividing film distribution income.  By excluding the £1,064,000 element in fixing the numerator in the fraction, the fraction confirmed that the £1,064,000 element had nothing to do with the production or distribution of Young Alexander. 
148.     Addressing the Appellant’s contention that the £1,273,866 was all paid for services, we repeat the point made in paragraph 90 above.   There was not a simple obligation to pay a fee of a given amount for services.  All that Icebreaker 1 was meant to be invoiced for under the HDA was for Exploitation Costs as defined in Appendix III, meaning Exploitation Costs paid or incurred by Centre.    In that regard, we seriously question whether the £1,273,866 was strictly due at all under the HDA on 5 April 2004.
149.     We reject any argument that the invoice actually delivered on 5 April 2004 by Centre itself provided evidence that Exploitation Costs of the amount contained in the invoice had been incurred.  Beyond the fact that the invoice contained no information, and that there was no evidence whatsoever (notwithstanding the information rights given in Clause 5.5 and 5.6) about actual Exploitation Costs, the invoice was obviously designed to take from Icebreaker 1 virtually the totality of what Icebreaker 1 had raised less amounts paid elsewhere, rather than to measure the amount invoiced in the way that Clause 2.4 actually required.  It is also significant that Centre itself did not pay away even the £209,866 element that it did receive for film production and distribution purposes until making a number of different payments (most to YAL) during April and May. 
151.    Although Icebreaker 1 was not going to question its liability to make the payment of £1,273,866 because it was keen to have incurred the costs on the one critical day of 5 April 2004, we conclude that Icebreaker 1 actually had no idea whether it was making a payment on 5 April that was invoiced “in respect of Exploitation Costs”, and was thus even due at all under the HDA.  We conclude that it was in fact not meeting a claim for costs properly due. 
150.     Dealing with the Appellant’s contention mentioned in paragraph 144 above, based on the words quoted from Clause 4.1, we do not accept that the right to the “certain payments” was given in return “for the obtaining of the rights and benefits obtained by Centre”.   It was claimed that those “rights and benefits” were the rights obtained as sub-distributor, and the rights to Centre’s share of film distribution income, and the argument advanced was that Centre assumed the obligation to make the “certain payments” in exchange for the distribution rights that it acquired.
152.   The only realistic construction of the real deal under the HDA is this.   £1,064,000 was paid to obtain and secure the rights to the certain payments.   This is mathematically coherent, and tallies with the absolutely required destination of funds under the deal with Bank of Scotland.  Centre acquired its rights to a percentage of distribution income in return for the work that it would undertake, and as the return on any funds of its own that it would apply, in producing and distributing the film.    Icebreaker 1 provided approximately £250,000 towards the total projected costs, and it was obviously contemplated that others would earn some slice of the share of distribution reserved to Centre under the HDA in return for funding that they would provide or for activities that they would perform as sub-contractor to Centre.  This seems to us to be the realistic deal under the HDA and we reject the argument that Centre’s rights as sub-distributor and its right to a proportion of film distribution income were acquired in return for its commitment to make the “certain payments”.
 153.     There was a tentative suggestion that the “certain payments” had been given in return for Icebreaker 1 sacrificing a much greater percentage of speculative distribution income from the film.  There was not the slightest evidence that any such deal was ever contemplated, and the Information Memorandum made it clear that it was not.   Our comments on the tax thinking behind this transaction illustrate that the tax planning aspects, geared to the provision of the certain income, and the plan for dressing up the payment for the certain income as a trading payment were always central to the thinking, and we reject any suggestions about a swap of higher distribution payments for more modest certain payments as irrelevant fantasy. 
154.     Counsel for the Appellant also encouraged us to approach this current issue by considering not what Centre did with the payment that it received but by considering the consideration given in return for the payment.  We accept that this is right.  If Icebreaker 1 had paid the whole amount of £1,273,866 to Centre for services, and Centre had of its own volition applied £1,064,000 in paying down existing bank debt, or indeed in any manner that it chose, those applications of the money would have had no bearing on the tax deductible nature of Icebreaker 1’s payments.   The only reason why the application of the £1,064,000 is significant in this case is that the banking arrangements made it clear that the placing of the blocked deposit, directly provided out of the £1,064,000 received from Icebreaker 1, was the very way in which it was envisaged by all parties that Centre would provide and secure the making of the “certain payments”, in return for the £1,064,000 received.  Thus it is realistic to match the relevant receipt with the very rights that its application produced, and had to produce, and to treat the £1,064,000 as the consideration for those rights. That linkage pays more regard to the irresistible reality than the Appellant’s counsel’s suggestion, based on Clause 4.1 that the “certain payments” were given in return for the general rights and benefits acquired by Centre.
155.      The Appellant’s counsel also suggested to us that if we treated the payment of £1,064,000 out of the £1,273,866 as a loan, then in the event of the Option being exercised for Icebreaker 1 to sell its business to Centre, the analysis would break down because the payment of the guaranteed certain element of the price for the business could not constitute both the repayment of a loan, and the price for the business.  
 156.     Our observations on this contention are as follows:
•	We have never suggested that there was strictly a loan from Icebreaker 1 to Centre.  At one point we did ask both counsel to consider what the accounting treatment would be if “£1,064,000 was analysed not to be a payment for services but a payment in return for a right equivalent to a secured interest-bearing loan for 4 years, turning into a partially-secured interest-bearing loan for the residue of 10 years”.   However we are not greatly troubled with the issue of how Icebreaker 1’s rights to the certain payments should best be described.   All that we are strictly concerned with is the question of whether the payment of the £1,273,866, or elements of it, are tax deductible payments in Icebreaker 1’s film distribution trade. 
•	We note in passing that the change in terminology as regards the Option Price, from the wording in the extract of the Information Memorandum quoted at paragraph 37 above, to the eventual terms of the Option Price in the HDA was doubtless prompted by a certain difficulty in deciding how to refer to the right to the “certain payments” when trying to assert that a business was being sold for capital gains purposes.
•	On the Appellant’s supposition that the whole of the payment of £1,273,866 was a deductible expense to Icebreaker 1, and that the receipt of the Final Minimum Sum at year 10 would correspondingly have been income, we are inclined to question the assumption that the whole of the payment under the option price (including obviously the £1,064,000 element) would have all been chargeable only to capital gains tax.    
•	On the basis that we are correct to say that no deduction would be available for Icebreaker 1’s initial payment of the £1,064,000 element, it would obviously follow that, whilst the Annual Advances equivalent to interest would still be income (because the residue of the certain rights would still be worth £1,064,000), the payment of the Final Minimum Sum would not be income.  Thus on the sale of the business, the discharge of that right for £1,064,000, or the assignment of that right, along with the assets of the business, to the “debtor” or quasi-debtor (Centre) would involve no profit of any sort in relation to the £1,064,000 element of the consideration, and any balance would attract a capital gains charge.  Were the right to the payment assigned to the “debtor”, the right and liability would merge in the hands of Centre.  Whether Centre had itself paid the £1,064,000 out of other funds, whereupon the blocked deposit could be released to it, once the members’ loans had been repaid, or whether the deposited funds had funded the Bank’s liability under the Letter of Credit, without Centre then having to make a separate payment in respect of the £1,064,000 minimum element, an entirely coherent result would have been achieved.

157.     We fail to understand the contention on behalf of the Appellant to the effect that the passages in the House of Lords decision in BMBF v. Mawson [2005] 1 AC 684 to the effect that the payments in that case were made in the course of BMBF’s trade, have the slightest bearing on the facts of this case.   The decision in the Mawson case was that, once it was concluded that it was a common feature of the transactions undertaken by finance lessors that they periodically leased assets but were funded in one way or another by “lessee-deposits”, such funding did not mean that the transactions were outside the course of the trade of the lessor.   The decision does not appear to us to mean that on every occasion where a taxpayer asserts that a particular payment is tax deductible as a trading expense, that it is so deductible or that this issue is to be conclusively proved by the wording chosen by the parties by reference to which the payment is made.  Nothing in our view in the Mawson case casts any doubt on the fairly elementary proposition that for a payment to qualify for relief as a trading deduction it must be made by the payer as an income expense for the purposes of the trade conducted by the payer. 
158.    We could reach our decision on this issue about the deductibility of the £1,064,000 element of the payment made by Icebreaker 1 in various ways.   We consider that all three, that we will now address, are available to us, and that any one is sufficient. 
159.     We have already said, firstly, that the simplest approach is for us just to rely on the basic proposition that to sustain a claim for tax relief for a payment, the taxpayer must show that that payment has been made for its genuine trading purposes.    It is not enough to assert that it was, or to rely on wording in a document that might suggest that it was.  In this case we say, without any attention to whether the £1,064,000 element was actually a loan, or the payment for an investment with “loan-equivalent” rights, that, whatever it was, it was not a payment made as an expense of the payer’s film distribution trade.   On the facts, the payment had nothing to do with the trade. 
160.    HMRC contended, secondly, that the documents had mislabelled various amounts, and we entirely agree.  It was implicitly asserted that the invoice for £1,273,866 was all in respect of Exploitation Costs, and it was not.   We do not indeed know whether, strictly speaking, any of it was, but we do know that £1,064,000 was not.   We also accept that the production of banking instructions and invoices on 5 April 2004 involved mislabelling.  In particular Centre’s issue of an invoice that contained details of a bank account that Centre knew that it did not intend to, and indeed could not, credit the moneys to, reveals that this invoice was drafted solely to assist Icebreaker 1 in its feint contention that it was paying £1,273,866 all to one account, and all to meet Exploitation Costs.
161.    Counsel for HMRC said that he was not raising, as a third approach, the claim that there were sham elements to these transactions, and counsel for the Appellant contended that it would have been improper for allegations of sham to be made without due notice.   Counsel for HMRC accepted that in his view the fine distinction was that a contention of sham would involve some endeavour to conceal and an element of fraud.  In view of our conclusions in paragraphs 159 and 160 above, we need not really address this issue.    We consider however that we should make some observations on it. 
162.   We certainly accept that Caroline Hamilton considered that she had a legitimate case to advance on the documentation that had been adopted.  Whether or not that renders sham contentions irrelevant we are not sure.  We also consider that the documentation in this case was dressed up to achieve a tax benefit that would not have been available but for the contention that the £1,064,000 element was paid for trading purposes, when we consider that it was not.  We also consider that all parties to the banking instructions and the drafting of the invoices on 5 April 2004 knew that the assertion that Icebreaker 1’s payment was to be freely available to Centre was false.   In particular we consider that the way in which Centre’s invoice was drafted to refer to a single bank account, when Centre knew that this was not intended, and when this was done simply to assist the play-acting, bordered on being false and deceptive. 
163.   Our conclusion on the £1,064,000 issue, however, is the simple one that this amount was not expended by Icebreaker 1 for trading purposes of its film distribution trade, and was thus not tax deductible. 
The contentions of the Appellant in relation to the deductibility of the £209,866 element, ignoring the accounting issues concerning prepayments
164.     The Appellant contended that:
•	it was not appropriate to sub-split the fee paid to Centre, and to consider separately whether elements attributable to film production as distinct from film distribution were more or less likely to constitute capital expenditure;
•	none of the expenditure was capital expenditure;
•	in was impossible for a person, with only an intermediate interest in a film (in other words not the person who was the ultimate owner of the copyright, and not the person in direct receipt of the distribution income from the ultimate sources) to have an interest that could constitute a capital asset, such that expenditure on it could be capital for tax purposes;
•	the licence interest of the Appellant was worth no more after the spending on the film than it was before the spending on the film; 
•	expenditure on distribution had no effect on the value of the licence interest, albeit that it might mean that more income would be received; and finally
•	in the event that some of the earlier contentions were not accepted and we concluded that Icebreaker 1 was to some extent to be taken to have incurred capital expenditure on the film, then section 40A Finance (No 2) Act 1992 would anyway have deemed capital expenditure incurred on the production of a master version of a film to be regarded for tax purposes in the period in question as expenditure of a revenue nature.

The contentions of the Respondents in relation to the deductibility of the £209,866 element, ignoring the accounting issues concerning prepayments
165.     The Respondents contended that:
•	we could and should consider whether Icebreaker 1 was incurring expenditure, under its contract with Centre, on film production or on film distribution;  
•	expenditure on film production did enhance the value of Icebreaker 1’s licence rights, and was thus capital expenditure; and
•	the expenditure was not incurred wholly and exclusively for trading purposes (though this contention was not particularly pursued).

Our decision in relation to the deductibility of the £209,866 element, ignoring the accounting issues concerning prepayments
166.   We consider that it is appropriate to consider the different services that Icebreaker 1 was contracting to receive from Centre, in considering the tax-deductible nature of the payment that it made for those services. 
167.     The determining factor, it seems to us, is whether Icebreaker 1 was contracting for the provision of a single service, which would inherently have one characteristic so far as tax-deductibility was concerned, or whether it was contracting for two or more services. 
168.    Referring to clause 2.1 and clause 2.4 of the HDA, we accept that the main thrust of Clause 2.1 was the appointment of Centre as Icebreaker 1’s “sole and exclusive distributor”, and that there was less attention to the feature that in reality the last minute changes to the draft HDA meant that Centre was effectively appointed both to produce Young Alexander and to distribute it.    Whilst this last minute change was properly mirrored in Appendix III (in which various paragraphs dealing with production were inserted), so that it was clear that Icebreaker 1 was to be liable to meet “production costs”, as well as distribution costs, Clause 2.1 was not, it seems, revised to reflect this reality.   
169.    It was clearly the case, however, that Centre was appointed to deal with the production of the film and its distribution.   Clause 2.1 even reflected this, albeit not particularly overtly, in that Centre was obliged to “incur Exploitation Costs”, and once the definition of those costs had been expanded to include production costs, it did follow that Centre was liable to produce the film.   More clearly still, Clause 2.4, which addressed the costs for which Icebreaker 1 should be invoiced, was entirely worded in terms of the right of Centre to invoice Icebreaker 1 for various categories of Exploitation Costs, and it was those costs for which Icebreaker 1 was liable to pay.     Icebreaker 1 was thus paying for various services that may fall to be treated differently for tax purposes.  We thus conclude that it is appropriate to consider whether there is any difference, from a tax perspective, in particular, in obtaining, and paying for services, designed to “produce the master negative of a film”, and those designed to pay for distribution. 
170.    We next fail to understand why it is suggested that a person with an intermediate interest in property, such as Icebreaker 1 in this case with its licence interest, can inherently not have a capital asset, or an asset, enhancement expenditure on which might rank as capital expenditure for tax purposes.
171.     The belief was that Dan Skinner had given exclusive licences to distribute the film for 10 years in all countries to third parties, the licence for all countries except Greece and the Middle East being conferred on Icebreaker 1.  We have mentioned that there was initially a failure to exercise an option, and we have not mentioned the fact (otherwise irrelevant to the Appeal) that Icebreaker 1 subsequently ensured that it did have the relevant rights.  The result of this was that, although Dan Skinner had some residual value in the screenplay and his copyright, it was of only minor value in view of the 10-year exclusive rights granted.   
172.     Making the assumption that Icebreaker 1’s total expenditure of approximately £250,000 was all on production of the film, it followed that, having suffered the 30% commission that we imagine that all head distributors would have charged for administration, Icebreaker 1 had retained, and was then entitled to, about 25% of film revenues, net of the commission.    Had Icebreaker 1 contributed only the bare licence rights, and say £50,000 to production costs, we imagine that that percentage would have dropped to say 5-10%.   Had Icebreaker 1 raised its full subscription moneys, and had these all been spent on filming, we imagine that Icebreaker 1 would have still suffered Centre’s 30% administration charge, but thereafter Icebreaker 1 would presumably have been entitled to a very much higher percentage of the film revenues.    It seems to us, therefore, that the amount of expenditure incurred on the production of the film would influence the percentage of income derived by Icebreaker 1 during the 10-year period.   It also seems to us that the production of the film would affect, and enhance, the value of Icebreaker’s intermediate rights under its licence, and in other words directly affect the value of those very rights. 
173.   There was a suggestion that any conclusion that Icebreaker 1 might be incurring capital expenditure on making production contributions to Centre had to be wrong because it would result in the analysis that both Icebreaker 1 and Centre were both incurring capital expenditure.   We disagree.   If we assume that the total spending on production of the film was £1 million; that Icebreaker 1 contributed 25% of that, other third parties contributed 50%, and Centre itself contributed 25%, the result would appear to be as follows.  Although Centre would have received £750,000 from Icebreaker 1 and third parties, and would have spent £1 million on filming, the maximum expenditure by Centre that might have ranked as capital expenditure would have been  £250,000, in that that is all that would have contributed in any way to the value owned by Centre, in right of its head-distributor’s sub-licence rights.  This is where HMRC’s “agency” contention makes some sense even though it is not strictly right. Nevertheless as regards the receipt of £750,000 and the payment of that element of the £1 million spent on filming, these two items would be income receipts and payments geared to Centre’s trade of arranging and procuring the filming for others.     The spending of the £750,000 would thus not be capital in the hands of Centre, but an income expense met out of income.  It would only be in the hands of Icebreaker 1, and the assumed third parties contributing 50% of the production costs that elements of the £750,000 might be capital expenditure. 
174.     In response to the suggestion that Icebreaker’s licence interest in the film, by virtue of which it was expecting to receive 25% of net revenues, was worth no more than its licence before the 5 April 2004 transactions, we disagree with that.  That would have been the position, had it contributed merely the bare licence, and no contribution to the filming.  As it was, its licence rights over a completed film would have been (the various problems apart) more valuable as a result of the production of the film. 
175.    Having dealt with the mechanical points, we now decide that expenditure on producing the film that inherently increased the value of Icebreaker 1’s 10-year rights was capital expenditure.  It increased the value of a long-term asset, and indeed the value of  Icebreaker 1’s only asset, the purchase price of which had been accepted to be capital.  It makes no sense to us for the purchase of the rights to be treated (rightly) as capital, and for the far greater expenditure designed to increase their value to be treated differently.  By contrast we accept, as the Appellant suggested, and as HMRC virtually conceded, that expenditure on arranging the distribution of the film was different.  It might create the apparatus, which would be required to obtain any income from the film, and successful distribution arrangements might increase the expected income flows, but that expenditure does not as such change the value of the film or Icebreaker 1’s licence rights or any other capital asset owned by Icebreaker 1.    We accordingly conclude that to the extent that Icebreaker 1 was incurring expenditure on the production of the film, that expenditure was capital, and to the extent that it contributed towards the costs of setting up distribution arrangements, that expenditure was revenue expenditure of its trade. 
176.    We now need to decide what proportion of the £209,866 was spent on film production, and what proportion on arranging the distribution of the film, Young Alexander. 
177.    The regrettable fact is that we cannot answer this question in any reliable manner because none of the evidence or even the documentation produced a clear answer.   As it happens, if the conclusions that we summarise below in relation to the way in which capital expenditure on production and revenue expenditure on distribution will be treated in the accounting period ending 5 April 2004 are correct, then it will make no difference to the losses available in the period in question how the total £209,866 is split.   We will however give the answer to this question to the best of our ability, in case this split becomes material, following any appeal. 
178.     We have already concluded that some expenditure must have been incurred by one or other of Kent Walwin’s companies before 5 April 2004 in arranging for the production of the film, because there was evidence about his having travelled to Germany, Canada, Greece and the Middle East, all in efforts to arrange for the filming.   As we have also said, if filming was ready to start shortly after 5 April 2004, it must follow that prior costs would have been incurred in making the arrangements for the filming.   Whether these costs were initially incurred by Centre, or whether they were cross-charged against Centre we do not know, and it appeared that none of the witnesses who gave evidence before us knew either.  It would however have been consistent with the way in which all costs appeared to be being channelled through Centre for this to have been the case.  
179.    At paragraph 121 above, we summarised how £150,000 had been paid by Centre to YAL within two months of Centre receiving, and crediting, the £209,866 to a particular Bank of Scotland account.   This seems to indicate that at least £150,000 was spent on film production, and quite possibly that the initial £10,000 discharging a debt on a Diners Club card may have been spent on production too.   It is possible that the £35,000 paid to Picture Product may have been spent on distribution.  
180.    On the reasoning thus that any unaccounted for expenditure of the type considered in paragraph 178 above would have been spent on arranging for film production, and that all but £35,000 of the £209,866 appears to have been defrayed in meeting film production costs, our conclusion is that £35,000 was income or revenue expenditure on arranging distribution, whilst the entire balance of £174,866 was capital expenditure spent on film production. 
181.     We acknowledge that in deciding the allocation question for Icebreaker 1 by reference to the only evidence that we have, which indicated that in a tracing sense, virtually all of the £209,866 was spent on film production, we may have reached an unrealistic conclusion.   It might, for instance, be the case that the totality of the expenditure to which Icebreaker 1 was contributing was predominantly on distribution rather than on the production of the film.   Our observation on this point is that we see no alternative to the allocation method that we have adopted.   This concern as to the correct allocation method does not make us doubt our conclusion that it is right to split the tax analysis of Icebreaker 1’s spending and to do this in some way by reference to the nature of the Exploitation Costs actually incurred by Centre.  Once we re-confirm that conclusion, we can see no way in which to seek to apportion Icebreaker 1’s expenditure than by the tracing way that we have adopted. 
182.     The Appellant contended that even if the expenditure on film production was regarded as capital expenditure, then nevertheless the effect of section 40A Finance (No.2) Act 1992 would be to treat “expenditure incurred on the production or acquisition of a master version of a film ……for the purposes of the Tax Acts as expenditure of a revenue nature, unless an election under section 40D below has effect with respect to it”.
183.     It seems to us that Icebreaker 1’s expenditure on the licence rights, namely the £46,950 paid to SPAM, did not fall to be regarded as revenue expenditure under section 40A for the two reasons that, as regards most of the eight screenplays and works, there was no master negative; and even where there was, the acquisition of 10-year licence rights to distribute and exploit would not involve the “acquisition of the master version of the film”.   By contrast however, where Icebreaker 1 was incurring expenditure on the production of the film, in other words, the master version of the film, its expenditure did fall within section 40A.   
184.    Whilst both parties accepted that the application of section 40A might be relevant in this case, we were not addressed on its application because it only became relevant in the event that we reached conclusions that the Appellant at least hoped we would not reach on several antecedent points.    Accordingly no attention was given to the basis on which revenue expenditure would in fact be allowed for tax purposes, were we to reach the conclusion, as we have done, that some significant expenditure was covered by the provisions of section 40A.   Without assistance from the parties, thus we now reach the conclusion that section 40B(4) allocates the deduction for revenue expenditure under section 40A to periods in the manner that is just and reasonable, but essentially also by trying to match expenditure with income derived from the film, that income for the period being contrasted with the remaining value of the film.  Since no income was derived from the film Young Alexander in the accounting period ending 5 April 2004, we conclude that no revenue deduction is available in that period for any of the expenditure covered by the provisions of section 40A.
The accounting evidence
185.     We were given very extensive accounting evidence by two expert witnesses, Mr. Keith Jackman of Smith & Williamson on behalf of the Appellant, and Mr. Matthew Jon Blake, an accountant employed by HMRC on behalf of the Respondents. 
186.     The essence of the accounting treatment that Mr. Jackman claimed was correct was that when Icebreaker 1 had made payments, whether under the HDA or under the two agreements with IML, the payments were either for services that had already been performed or if they were for future services, it was not appropriate to defer claiming the deduction for the payments on the basis that the payments were prepayments.   The reason why it was not appropriate to treat any part of the payments as properly to be deferred as prepayments was because neither the HDA nor the Administrative and Advisory Agreements with IML made any reference to the future period over which economic benefits would accrue in relation to the amount payable by the LLP.    It was thus not practical to attribute elements of the payments to particular future periods, and so they should all be allowed as expenses in the period ending 5 April 2004.  It was actually suggested that most of the services required to be given under the Administrative and Advisory Agreements had already been given prior to 5 April 2004.    
187.     We understood Mr. Jackman to claim that the whole of the £1,273,866 paid under the HDA should all be expensed in the accounting period that ended on 5 April 2004, even in relation to the payment of the £1,064,000 element.  As we understood Mr. Jackman’s evidence he said that he had approached the accounting question in relation to the whole of the payment of the £1,273,866 on the basis that it was to be assumed that it was all paid “for services”.  In response to questions as to why no asset of any sort would be recognised in relation to the various rights, either under the Option or at year 10 to receive the certain sum of £1,064,000, we understood Mr. Jackman to say that all those receipts were contingent in that it was not appropriate to assume the exercise of the option. 
188.     Mr. Blake had a different approach.   We will explain the approach in a little more detail, but it will be convenient to quote in full a very succinct summary that Mr. Blake gave at the end of giving his evidence before dealing with the different aspects within it. 
189.     Mr. Blake’s summary was this:
“My opinion is that £1,064,000 should have been carried forward as an asset, being the certain return from the Final Minimum Sum (or Option payment) from Centre, and that part of the £209,866 payment to Centre, and that part of the £170,000 payment to IML should have been treated as a prepayment and carried forward to the extent that services had not been received or activity not been carried out.    If services had been received or activity had been carried out prior to 5 April 2004, that portion of the expense (or some estimation of it) should have been expensed in 2004. 
Essentially, the profit and loss account of the LLP records a loss of £1,491,816, when the LLP did not make a loss of £1,491,816.    £1,064,000 was not a loss – it was guaranteed to come back to the LLP.    Of the remainder, it does not appear that activities or services as set out in the HDA and Administrative Agreements had been substantially done or received”.

190.    The advice given by Mr Blake as regards prepayments was this.  In considering whether a payment should be regarded as a prepayment, it was not appropriate to consider whether the income expected to be derived from the making of the payment was to be received in various future periods, and in identifiable amounts.   Instead one should refer just to whether there was a deferral of the provision of the service that had been paid for.   If, thus, the services had already been provided at 5 April 2004, the payment made for those services should be expensed in that period.  If the services were to be provided in future periods, and the payer had contractual rights that the services should indeed be provided, then it was appropriate to treat the payments as prepayments, and only expense them as the services were provided, or at the point when it became clear that no further services would be rendered.    In the present case, all the information powers in Clause 5 of the HDA gave Icebreaker 1 ample right and opportunity to ascertain when services had actually been rendered, and Icebreaker 1 could thus easily ascertain when it was appropriate to claim the expense for payments, initially ranking as prepayments.  

191.   It actually happens that on the basis of our actual decisions, the accounting evidence is of only marginal relevance.  We will however consider each particular cost, and indicate the basis on which we reach our decision. 

192.      We have made our decision in relation to the payment of the £1,064,000 element without any regard to the accounting evidence.   Should we have based it on the accounting evidence we have no hesitation in saying that on this point we prefer the evidence given by Mr. Blake to that given by Mr. Jackman.   Mr. Blake’s opinion on this point is the one recorded in the first phrase of the summary quoted in paragraph 189 above. Mr. Jackman’s evidence was necessarily based on the assumption that he was asked to make, namely that the whole £1,273,866 was paid as a fee for services, but we still fail to understand how he resisted the proposition that the £1,064,000 element should have been regarded as an investment or asset.    Beyond the fact that the £1,064,000 would still be paid, and guaranteed by Bank of Scotland, regardless of whether the option was exercised or not, it is still appropriate to consider the likely approach to the exercise of options in considering accounting treatment.    It was not thus appropriate to say that the receipt of the minimum price under the options should be disregarded as contingent.  But the basic objection to Mr. Jackman’s approach was that the certain payments were still certain, whether the option was exercised or not. 
193.     We have reached our decision in relation to the £174,866 that we have decided that Icebreaker 1 paid in respect of the costs of production of the film by reference to taxation considerations, rather than accounting ones.  Both experts agreed that the expenditure on producing the film would not have been capitalised for accounting purposes because the expenditure on such an asset was too nebulous to be capitalised.    We still considered however that for taxation purposes, the expenditure was designed to increase the value of Icebreaker 1’s main (or only) asset, which Icebreaker 1 intended to exploit in order to generate income.    Having thus classed the expenditure as capital expenditure for tax purposes, and then applied the provisions of section 40A and 40B, the end result was to treat the expenditure as revenue expenditure, but on the timing basis that none of the relief for the expenditure should be available in the period ending 5 April 2004. 

194.    Were the treatment summarised in paragraph 193 wrong, and should we have applied accountancy principles to the expenditure on filming, we consider it clear that the filming was to be commenced after 5 April 2004, and bank accounts of Centre demonstrated that significant elements (virtually the whole) of the £174,866 was to be expended by Centre, after 5 April.   We thus consider that the payment of this element by Icebreaker 1 should be treated as a prepayment for the reason given by Mr. Blake at paragraph 190 above.   We also add the point that we do not accept that Icebreaker 1 was actually contractually bound to make the payment that it did make on 5 April 2004 at all.  It was bound to make payments to match Exploitation Costs incurred by Centre, but there was no evidence at all that Centre had incurred such costs on or before 5 April 2004.   The result of this analysis is that the payment is not so much deferred as a proper prepayment, contractually due, but no relief should be given for it until such time as it was properly owing, and then not to be deferred as a prepayment.      

195.     We consider that the £35,000 element of the total payment made by Icebreaker 1 to Centre on 5 April 2004 was a prepayment of a revenue expense for distribution services, which should have been treated as a prepayment in the accounts to 5 April 2004 and expensed in the following period.  In this respect, we again adopt the accounting treatment advocated by Mr. Blake. 

196.     We turn now to the payment of the aggregate figure of £170,000 to IML under the two agreements.     This aggregate payment also raises some difficult issues. 

197.      We are firstly distinctly confused by the drafting of these Agreements, and by the reference that we have already referred to in the Information Memorandum.   It seems very obvious that the architect of the arrangements in this case, contemplating closing an accounting period on the very day when the LLP’s trade commenced, and on the last day of the tax year, would have given some thought to the issue of whether the payments under these two Agreements were to be for past services or future services.   Since the Information Memorandum had contemplated that the LLP would be entitled to tax losses in respect of virtually the totality of its payments on the one critical day, this issue was utterly central to the planning.  This leaves us distinctly confused as to why the Information Memorandum, and both agreements clearly said that the payments were to be for future services, yet Mr. Jackman in his approach, the Appellant in advancing its contentions, and Caroline Hamilton in giving her evidence, have all been stressing that all the services were past services.    It was suggested that the explanation might lie in the fact that the services were going to be future services when the two Agreements were first drafted, but by the time they came to be executed, the services had basically all been provided, and the draftsman forgot to change the tense used in the agreements.   This is not the extent of the confusion.  The Administrative Agreement specified 14 headings for services, several of which would be annual services.   Quite why there was an “up front” payment of £120,000 and then very minor payments to be paid in arrear in all 10 periods is unclear.  Under the Advisory Agreement, the services were said to relate to the choice of sub-distributors, all of which services were to be rendered, it would seem, after 5 April, albeit that it was fairly common ground that many of the advisory services would have been rendered by 5 April. 

198.    In short, it seems that the contrast between the drafting, reality and the evidence and the claims that have been advanced during the hearing are all very marked.    In view of what we can only describe as confusion, we find it difficult to give confident answers. 

199.     One possible explanation for the reluctance to concede in the drafting of the two agreements that the fees were to be paid for past services, is the point that that might have suggested that some at least of the fee was given for the delivery of the Icebreaker structure, and that that element of the payment would be disallowed on the basis that it was capital expenditure, or at least not revenue expenditure of the trade of actually producing and distributing films.   We imagine that it was on this basis that HMRC disallowed 30% of the fees, in other words a cost of £51,000.

200.     Caroline Hamilton gave evidence to the effect that she had borne personally some of the “set up” costs of the structure, indicating that these costs had not been carried by IML, such that there was no ground for supposing that IML might have had any occasion to think about charging Icebreaker 1 for such costs.  It was also suggested in argument that there were two reasons for contending that no set up costs were included in the £170,000 charge rendered against Icebreaker 1.  The first was simply the argument that Icebreaker 1 was only charged for the items referred to in the two agreements, and these items did not include set-up costs. The second argument was that if set-up costs should be disallowed, as capital expenditure, in the hands of any company, it would have been in the hands of IML, and not Icebreaker 1. 

201.    We accept that there can be factual situations where it would indeed be appropriate for any disallowance of set-up costs to be in the books of the management company, rather than in the books of clients paying income fees for services.   Thus if a manager has to set up a considerable organisation that was to be used by it in charging multiple clients, say, a 1% management fee for some service, it may then be very realistic to say that the disallowance should be in the hands of the management company. 

202.   Where by contrast an entity promoting tax avoidance schemes, or an investment bank promoting “tax-based products” charges each client that uses the scheme or concept a very considerable price “for the scheme”, it seems to us that the reality regarding the risk of costs being regarded as capital switches.  The trade of the promoter or investment bank is to devise schemes and concepts and to sell them as often as possible for significant fees, and there is thus no occasion for a disallowance in the hands of the promoter or investment bank.   By contrast, it is then realistic to say that the charges against the client are not for administrative services that might be given in the course of the client’s trade, where the scheme involves the carrying on of a trade.  Some element of an up-front charge has to be attributed to the sale or provision of the structure of the scheme.   It is then entirely credible that an element of an up-front charge will properly be disallowed as a capital expense, or at least that it will fail to satisfy the requirements for being allowable as an expense of the client’s trade. 

203.     We consider that in this case, it is realistic to say that some element of the £170,000, which was in fact billed as one amount, should be disallowed on this reasoning.  We have no reliable basis for deciding the amount of the total fee that should be disallowed on this basis, and therefore adopt the figure initially selected by HMRC, and say that of the £170,000, £51,000 should be disallowed on this basis.   We might add that in adopting the figure chosen by HMRC, we are inclined to think that the Appellant has thereby received relatively fortunate and favourable treatment. 

204.     We will add comments on two points that seem to us to support our conclusion that some part of the £170,000 has rightly been treated as a payment for the setting up of the structure.   First we note the obvious point that what the Icebreaker team had been working on for some months was the creation of this structure.   We accept that Kent Walwin was spending his time on film-related matters, and it was essentially Kent Walwin who would suggest the list of titles that might be licensed to Icebreaker 1, and who was preparing for the filming of Young Alexander.  Caroline Hamilton, by contrast, seems to us to have been far more involved in setting up the structure, and we imagine that the realistic costs of setting up the structure, obtaining accounting and tax counsel’s opinions and agreement with Bank of Scotland must have been very considerable. 

205.     The second point that we should mention is a point made by HMRC’s counsel.   This was that when Caroline Hamilton said that the IML fee was a fairly standard administration type fee in the film industry, being on our calculation approximately 13% of the aggregate of £1,273,866 plus £46,950, this calculation glossed over the point that it compared the IML fee with the wrong figure.   Were one to compare the £170,000 fee with the realistic £256,816, the fee ceases to look like an ordinary administration fee in the film industry, charged at a conventional percentage.  All parties accepted that nothing hinged on whether the charge was good value or not, but we suggest that this realistic basis of calculation does tend to indicate that Icebreaker 1 was being charged for something beyond administration and advice, and that this further supports the conclusion given in paragraph 203 above. 

206.     That leaves, as the remaining two questions in relation to the IML fees, the issue of what proportion of the £119,000 balance we say was paid in respect of services that had already been rendered by 5 April 2004, and how we should treat any element paid for future services.  We should say immediately that both expert witnesses were agreed that an immediate deduction would be available for the element of the fees attributable to services that had already been rendered. 

207.     We consider that the facts had changed materially between the February 2004 date when the Information Memorandum was produced and 5 April 2004.    When the Information Memorandum was produced, the expectation was that Icebreaker 1 would have its minimum indicated capital of £5 million.  That, we assume, would have made it far more realistic for Icebreaker 1 and Centre to have had far more joint activity in the period following 5 April 2004 in developing Young Alexander, and also and significantly, the other 7 titles.   When the subscriptions were reduced to £1.5 million, it necessarily followed that Centre was having to do deals with other third parties to fund and arrange for the filming and the distribution, and presumably no-one had any time or money to do any work on the other seven titles.  This appears to justify the conclusion that a greater percentage of the fee paid related to past services. 

208.      The feature just addressed seems to indicate to us that it did follow that a greater proportion of IML’s services had been rendered by 5 April 2004 than was supposed, back in February, would have been the case.   We accordingly conclude that of the £119,000, £90,000 related to services that had been rendered by 5 April 2004.   There was no evidence to enable us to support that chosen figure, other than the general point mentioned at the end of the previous paragraph. 

209.     We prefer the accounting evidence given by Mr. Blake to that given by Mr. Jackman, and consider that the remaining £29,000 of IML’s fee was, at 5 April 2004, a prepayment that should be expensed in the later periods when the services were due to be provided.   Insofar as the Appellant might complain that this is unrealistic, and that the whole of the £119,000 should be treated as having been paid for services that had already been rendered by 5 April 2004, we might draw the Appellant’s attention to the following considerations.  These are that the Appellant’s argument in relation to the payments under the HDA has been that we should pay regard to the precise wording of the HDA in considering the deductibility of the £1,273,866 (a claim that we paraphrase to be a request that we should look at what the Appellant wished the agreement had said, not what it did say).   In view of this, we draw the attention of the Appellant to the actual wording of both agreements with IML, and suggest that in disregarding that wording by treating £90,000 as having been paid for past services, the Appellant has again been relatively fortunate. 

Overall conclusions

210.      It follows that the result of our various conclusions is that:

•	£1,064,000 paid under the HDA is disallowed, as not being a trading expense;
•	£174,866 is rightly regarded as capital expenditure incurred by Icebreaker 1 on the production of the master negative of a film; then deemed by section 40A to be revenue expenditure; and finally required by section 40B to be allowed in periods falling after the period that ended on 5 April 2004, such that no relief is available in respect of this amount in that period;
•	£35,000 was a prepayment made for film distribution purposes, none of which should be allowed in the period ending 5 April 2004;
•	£51,000 (30%) out of the aggregate fee paid to IML was a non-tax deductible cost of paying for the delivery of the Icebreaker structure;
•	£90,000 paid to IML was allowable in the period ending 5 April 2004, as being referable to past services; and
•	£29,000 paid to IML was not in respect of past services, but a prepayment that should be allowed only in periods following the end of the 5 April 2004 period.

211.     We finally observe, before turning to Closure Notice points, that the reality of the proposal put to intending members of Icebreaker 1 was that they could not possibly lose more than their net capital contribution.   That was the whole purpose of the structure.  When accounting principles are intended to produce a true and fair view, it surely cannot be that much of a surprise that we conclude that an accounting and tax loss of nearly £1.5 million should be denied, when the members joined an LLP whose transactions ensured that the LLP, and its members, could not possibly lose more than the members’ contributions, net of the limited-recourse bank borrowings. 

The Closure Notice points

212.     The Appellant sought to raise the point that there were issues in relation to the Closure Notice that might preclude HMRC from having raised certain contentions, and there was considerable discussion as to whether we should await the release of the Court of Appeal’s decision in the Tower MCashback case before releasing our decision in this case.   We accept that if the decision by the Court of Appeal has an impact on whether we should be asked, following a request by the Appellant to appeal against our decision, to review this decision in the light of the Court of Appeal findings, it may be necessary and appropriate to carry out such a review.   In the meantime, however, we consider the points raised in relation to the Closure Notice issued by the Appellant to be so weak that it is pointless to defer releasing our decision. 

213.     We note first that the Closure Notice issued in this case simply gave the conclusion that the loss for the period should be reduced to an allowable loss of £11,900.   The Closure Notice takes effect at its date, and we are not convinced that a letter written by HMRC after several weeks, and even after the Appellant has issued its Notice of Appeal, should be treated as being “part of the Closure Notice”.   Whilst we consider that it should not be so treated, we are prepared to assume for the purposes of this case that we should pay regard to the later letter.    We summarised in paragraph 15 what this letter said.   It indicated without elaboration or reasons that the £1,273,866 paid to Centre should be wholly disallowed, that 30% of the payment to IML should be disallowed, and that the balance of the payment to IML should be spread over 10 years. 

214.    There were three bases on which, so far as we understood matters, it was contended that there might be grounds in this case on which HMRC would be debarred from raising points, outside the conclusions, adjustments, and the facts which were the subject matter of the conclusions in the Closure Notice. 

215.    The first was the point that if HMRC had changed their argument, having originally contended that a loss should be denied, and instead they later contended that the loss should be allowed but nevertheless matched by equal and opposite income, it might be impossible for HMRC to advance that contention.  There is at present slightly conflicting judicial opinion on this point, and we accept that one of numerous accounting treatments canvassed by Mr. Blake did proceed on the basis of matching a loss with the immediate recognition of equal income. Mr. Blake, however, advanced various other possible treatments, all of which simply justified a disallowance of the loss.   Our decision in relation to the £1,064,000 element has not remotely been based on matching a loss with income, and so we cannot see that this case comes anywhere close to raising a Closure Notice issue on this type of point. 

216.     There was, secondly, some further argument that in the interests of justice it was inappropriate for HMRC to raise issues such as mislabelling, if their original Statement of Case had not raised such issues.   It was certainly clear one week prior to the hearing that HMRC was raising mislabelling issues, and indeed the papers supplied to us included coloured charts that made the destination of the separate amounts of £1,064,000 and £209,866 very clear.  Furthermore there is no denying that in correspondence, and in the expert accountancy report by Mr. Blake, the substance of the “investment” contention as regards the £1,064,000 element was made abundantly clear for a very long time.  It may not then have been phrased as a contention based on mislabelling, but the basis of this element of the disallowance was clear, and can have come as no surprise to the Appellant. 

217.     The clear answer to any contentions on the part of the Appellant in relation to it being inappropriate to raise mislabelling arguments is that we have already made it clear in paragraphs 159 and 163 that we can and do decide the issue of the disallowance of the £1,064,000 simply on the basis that to sustain a trading deduction the Appellant must show that a payment has been laid out for the purposes of its trade, and that the Appellant has failed in this case to do this as regards the £1,064,000 element.  We indeed find the Appellant’s contrary argument to be rather extraordinary because it seems to involve saying that the availability of a trading deduction should be resolved entirely by looking at the wording of the contract under which it was paid, or rather “at the wording that the Appellant wished the contract had contained, rather than the wording that it did contain”, thereafter paying no regard to the facts or reality. 

218.     The third contention advanced in relation to the Closure Notice is that, in addressing the payment to IML, the quantum of disallowance was 30% or £51,000, and that the balance of the payment was treated as allowable, but required to be spread.    The Appellant contended that HMRC cannot raise contentions that lead to a different numerical answer, and it was contended that HMRC were raising such contentions.    

219.     We have concluded, in a manner that we think is generous to the Appellant, that no more of the payment of £170,000 than £51,000 should be totally disallowed.   We have not done this in any endeavour to weaken any argument in relation to the Closure Notice, but for the reasons that HMRC did not contend that a greater element should be disallowed, and in the absence of clear facts and indications, we saw no ground for changing the figure.   As regards, the balance of £129,000, we did not observe that HMRC was actually asserting any different figures.  There was a progressive acceptance that it was looking more realistic to treat much of the payment as having related to past services, so being allowable, but no numerical contention was advanced.    We also take it that the Appellant does not suggest that we have no jurisdiction, on a matter properly before us, to raise or lower a figure in contention if we consider that it is right to do so.  We also assume that the Appellant does not object to our deciding that £90,000 out of the fee payment to IML was allowable. 

220.     In short, we are unable to discern any valid argument that HMRC should have been precluded from advancing any of the points that it has advanced, or that we have no jurisdiction to hear them. 

Final Conclusion

221.     Our conclusion is thus that Closure Notice contentions do not preclude us from deciding this case, as we do, in accordance with the summary given in paragraph 210 above.

HOWARD M NOWLAN
TRIBUNAL JUDGE
RELEASE DATE: 5 January 2010