Judgment in the case of R (Aozora) v HMRC [2017] EWHC 2881 (Admin) was handed down yesterday. Once again, a taxpayer sought to rely upon the doctrine of legitimate expectations. Once again, the taxpayer lost. The case however flags up important issues in respect of the doctrine of legitimate expectations, in particular the effect of HMRC guidance containing an error of law.

The taxpayer had been issued closure notices, the effect of which was to deny the taxpayer relief under section 790 of the Income and Corporation Taxes Act 1988 in respect of withholding tax imposed by the US. This was on the basis that, as HMRC contended, s. 793A of the Act operated to prevent the availability of the relief. The taxpayer however contended that HMRC guidance (in this instance HMRC’s international manual) gave rise to a legitimate expectation that it would be taxed in accordance with the guidance.

In this case, HMRC’s guidance set out the meaning of the legal provisions, but then also, significantly, added that “At 1 April 2003 the only provisions to which s.793A applies is Article 24(4)(c) of the new UK/US DTA”. This was removed in 2011. Article 24(4)(c) of the UK-USA Double Taxation Convention is a very specific provision which the judge read “several times, in a futile endeavour to understand its purpose” but, in essence, is an anti-avoidance provision in respect of tax on dividends. It was this limitation to section 793A that the taxpayer was seeking to rely upon in the case as creating a legitimate expectation.

With regard to the issue of legitimate expectation, the standard formula set out in tax cases is that you first consider whether there is a legitimate expectation created by the public authority, and secondly whether frustrating that is so unfair as to amount to an abuse of power. An important feature of this case was the idea that HMRC’s guidance had incorrectly stated the law, something which similarly arose in the case of Hely-Hutchinson (which this blog has covered extensively. For instance, see here). The judge quoted Lady Justice Arden’s formulation therein that “it is well established that it is open to a public body to change a policy if it has acted under a mistake. The decision whether or not to do so is not reviewed for its compatibility in the public interest: the question is whether or not there has been sufficient unfairness to prevent correction of the mistake”. In other words, it is legitimate for HMRC to seek to correct past mistakes in respect of guidance and it is only where doing so would be particularly unfair that the body will be estopped from doing so in an individual case.

Applying that law to the case at hand, the judge looked at three issues in respect of the legitimate expectation claim: first, whether there was a relevant representation from HMRC; second, whether there was reliance upon that representation; and finally, whether there was resulting conspicuous unfairness.

The judge was satisfied that there was a relevant representation. This was despite the fact that it came from an internal manual and that it was qualified that it might not cover the particularities of each taxpayer’s case. The finding that an internal manual can create a legitimate expectation, even though it is not per se directed towards taxpayers, is entirely orthodox. As for the qualified language of the guidance, the most prudent of ordinarily sophisticated taxpayer would have interpreted the guidance as meaning that section 793A only applied in respect of Article 24(4)(c).

But the judge did note two further matters in respect of representations. The first was that counsel for HMRC at one point “came uncomfortably close to asserting that HMRC could not in law be prevented in any case from resiling from a representation that could later be shown to be an incorrect interpretation of the applicable law”. Interestingly this is not the first time that it has been suggested by HMRC that it is bound to apply the law correctly and collect the tax due. In the High Court judgment of Hely-Hutchinson, Mrs Justice Whipple noted that HMRC there “came close to characterising the duty to collect tax as a trump card which prevails over all other considerations”.

In truth, HMRC may be precluded from applying a correct interpretation by reason of a legitimate expectation. But there are clearly “conceptual difficulties” with that proposition. This is the second further matter the judge briefly notes. HMRC is under a duty to collect tax due. How can it be the case that it would be empowered to act beyond this express duty by purposefully not collecting that tax which is due? This gives rise to circular conundrum: what authority does the body have to act outside its authority? This issue is addressed in Paul Craig’s Administrative Law 7th edition, at pages 701-716 and also in an article of mine in Public Law.

What is unclear from the judgment however, and the Court of Appeal in Hely-Hutchinson also did not elaborate upon this point, is how much weight to put on the fact that HMRC guidance might contain an error of law.

Turning to the matter of reliance upon the representation in the manual, the judge found that there was no reliance by the taxpayer. This was either because, as a matter of fact, the taxpayer was not told about the HMRC guidance by the advisors or because the advisors actually came to the conclusion about the applicability of section 793A independently, without recourse to the guidance. It might be queried whether it makes sense that it might be necessary to show that an actual taxpayer, rather than her adviser (which could then be imputed to the taxpayer), did in fact rely upon the HMRC guidance in question.

The judge held on the third point that even if he were wrong in respect of reliance, the taxpayer could not demonstrate that it was conspicuously unfair for HMRC to resile from its representation. In order to do so, the taxpayer would have to be able to show that “but for the advice that unilateral tax credit was available, it would not have made the business decision that it did, but would have made a business decision that was more favourable from a tax point of view”. But there was no evidence to support this proposition. This finding however raises a broader conceptual issue. The doctrine of legitimate expectations pursues different objectives. On the one hand, it undoubtedly protects citizens where they have changed their position in reliance upon a representation from a public authority. But the doctrine also seeks to ensure that public authorities act consistently with their policies. Where this is in play, the fact that a particular citizen may not have relied upon the representation is not determinative of the claim. However, the judge in this case only approached the matter as if the doctrine is only relevant in so far as a taxpayer has changed her position in reliance upon an expectation.