Winding up and the public interest test - Secretary of State for Business Innovation and Skills v PAG

When is it just and equitable to wind up a company? Reuben Comiskey, barrister at 11 Stone Buildings, explores the recent case of Secretary of State for Business Innovation and Skills v PAG and explains that it suggests certain schemes ought to be wound up in the public interest.

Original news

Secretary of State for Business Innovation and Skills v PAG Management Services Ltd [2015] EWHC 2404 (Ch), [2015] All ER (D) 74 (Aug)

The Secretary of State presented a petition, under section 124A of the Insolvency Act 1986 (IA 1986), seeking an order that the respondent company be wound up on the basis that it would be expedient in the public interest. The Chancery Division, in allowing the application, held that misuse of insolvency legislation by the respondent's scheme demonstrated a lack of commercial probity, such that it was just and equitable to wind up the company.

What was the background to the petition briefly?

Under the Non-Domestic Rating (Unoccupied Property) (England) Regulations 2008, SI 2008/386, the occupier of business property is exempted from paying business rates on that property if it is in liquidation, either compulsory or voluntary.

Recently, a series of businesses have attempted to take advantage of this exemption to save landlords business rates on commercial properties while they are unoccupied. The method adopted by PAG Management Services Ltd is typical of these schemes. It involved the following steps:

  • PAG would incorporate a special purpose vehicle
  • PAG's client (the landlord) would grant a lease to the special purpose vehicle (SPV), generally for three years on a rent of £1 per year and with obligations as to use and repair, but terminable on seven days' notice
  • at the same time as granting the lease:
    • the landlord would waive the right to receive sums due under the lease, and
    • the SPV would be placed into members' voluntary liquidation (MVL)—so that it would be exempt from business rates
  • the MVL would proceed slowly, allowing the landlord time to refurbish and market the property without itself having to pay business rates - since the SPV was in occupation of the property
  • if a new tenant was found for it then the lease to the SPV would be terminated

PAG received a fee for this service of between 15% and 40% of the business rates saved.

The Secretary of State petitioned to wind up PAG in the public interest and presented a petition pursuant to IA 1986, s 124A.

What were the arguments advanced in support of this petition?

The Secretary of State's primary complaints against PAG were as follows:

  • the leases were shams because the SPVs did not have the assets to comply with the obligations, and the landlord would not have accepted anybody other than the SPV as tenant on the terms of the leases
  • the statutory declaration of solvency (crucial to a voluntary liquidation continuing as an MVL) could not properly be given as it was given by a person who did not know the assets and liabilities of the SPV
  • the scheme involved a breach of IA 1986, s 87 which requires a company to cease to carry on its business on winding up, because the SPV had no business prior to and outside the MVL
  • the scheme involved a breach of IA 1986, ss 91, 92 because if the liquidator of an SPV indicated his intention to disclaim the leases, he would be removed and no replacement would be appointed
  • the scheme involved an abuse of the insolvency legislation
  • the business of PAG was artificial and demonstrated a lack of commercial probity.

What did the judge decide, and why?

Norris J wound up PAG, but only the fifth and sixth grounds mentioned above.

As to the first ground, he held that the leases were not shams. He drew a distinction between a transaction that was artificial - as these leases obviously were - but still intended to take effect, and a sham transaction that was not intended to be effective at all. The leases clearly were intended to be effective, as the scheme would not have worked otherwise.

In relation to the second ground, this was irrelevant. The only people who were affected by the declaration of solvency were the SPV's creditors, and there were none. The third ground was not made out either, since the SPVs were not carrying on business before the liquidation, and so had nothing to cease.

The fourth ground was decided on the facts - there had been a delay in the appointment of replacement liquidators, but on the evidence, this may have been the result of Insolvency Service advice (through a 'Dear IP' letter).

The fifth and sixth grounds were taken together. The judge held that the promotion of a scheme to avoid business rates was not, of itself, sufficient reason to wind up PAG.

However, he went on to hold that the purpose of liquidation was 'the collection, realisation and distribution of assets in satisfaction of the claims of creditors and the entitlements of members'. The SPVs, on the other hand, used liquidation in order to act as shelters for assets and in so doing subverted the purpose of the insolvency legislation.

To what extent is the judgment helpful in clarifying the law in this area?

There are numerous examples of schemes similar to that operated by PAG, and recently there have been several instances where these schemes have been wound up on the petition of the Secretary of State. However, this is the first time that such a case has come before a High Court judge. To that extent, therefore, this judgment should be helpful since it determines the question of whether schemes such as this ought to be wound up in the public interest.

What practical lessons can those advising take away from the case?

The judgment is also helpful in other ways, particularly in relation to the grounds on which the Secretary of State did not succeed. In particular, it is confirmed that mere artificiality does not engage the public interest test. Neither does tax avoidance as a matter of necessity - though the judge was clearly impressed with the evidence as to the unsatisfactory nature of the business rates regime.

Therefore, the simple use of liquidation—however artificial—as a tax mitigation scheme seems unlikely to fall on the wrong side of the line. What seems clear, however, is that if a scheme necessarily involves failing to progress that liquidation, then it is likely to constitute an abuse of the insolvency legislation.

Interviewed by Ioan Marc Jones.

The views expressed by our Legal Analysis interviewees are not necessarily those of the proprietor.

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