‘Arctic Systems’ case

By Tolley
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The following Owner-Managed Businesses guidance note by Tolley provides comprehensive and up to date tax information covering:

  • ‘Arctic Systems’ case
  • Background to the case
  • Court of Appeal decision
  • House of Lords decision (June 2007)
  • After Jones v Garnett

Statutory references in this guidance note are to ITTOIA 2005. References in the case reports are to the old legislation (as this was pre-ITTOIA).

The application of the settlements provisions to family businesses has been in the spotlight since the case of Jones v Garnett, often referred to as the ‘Arctic Systems’ case. HMRC has been planning to enact legislation to counter income shifting for some years. It was originally intended that this would be included in Finance Act 2008, but draft legislation was widely condemned by the tax profession and business community and so the process has subsequently stalled.

Another development, following Arctic Systems, in the taxation of spouses and civil partners is the decision in August 2010 in the case of Patmore v Revenue and Customs Commissioners. This is discussed further in the Husband and wife / civil partners guidance note.

Background to the case

Mr Jones was an IT consultant. He ran his own computer consultancy business via a limited company called Arctic Systems Ltd. He traded via a limited company as his clients wanted to ensure they were not classed as ‘employers’ and would therefore only engage his services through a company (ie he established the company for bona fide commercial reasons rather than to reduce tax liabilities).

The company had an issued share capital of £2. Mr Jones had subscribed for one £1 share. Mrs Jones (his wife) had subscribed for the other £1 share.

Mr Jones was the sole director (although he did not have a formal service contract) and his expertise generated the income of the company. He drew a small salary in return for working full-time

Mrs Jones was the company secretary. She carried out administrative work such as invoicing and bookkeeping. She worked, on average, about five hours a week for which she

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