Property118 schemes for landlords – a mistake worth fixing?

In recent weeks, there has been increasing publicity around various tax avoidance schemes which have been promoted to landlords with the promise of significant tax savings. An arrangement devised by Property118 and Cotswold Barristers has attracted particular attention, including in a series of detailed articles from Tax Policy Associates (TPA). The potential consequences for over 1,000 buy-to-let landlords may include significant unintended tax liabilities and possible mortgage default. It has been suggested by many that affected landlords should obtain independent legal advice about what remedies may be available to them, including possible professional negligence claims. 

The authors do not have first-hand experience of the schemes in question and so this article does not propose to comment on the issues with the tax planning that have been identified. However, it seems to us that one potential remedy that could equally be considered is a Court application to unwind the arrangements on the grounds of mistake, which if successful could also mean that the adverse tax (and legal) consequences do not arise. 

Issues with the Scheme

The scheme is targeted at buy-to-let landlords, as a means to reduce tax payable on rental income, by seeking to exploit the tax benefits available for property rental businesses without exposure to the tax consequences of moving properties to a corporate structure. At its heart, the scheme involves the declaration of trust by a landlord over rental properties in favour of a newly incorporated company. The trust is intended to be a bare trust, but it has been suggested that the drafting of the document is ineffective and in fact creates a rather different type of trust. Overall, it has been suggested that the arrangements result in a number of negative tax consequences, including in relation to capital gains tax (CGT), inheritance tax (IHT), income tax and stamp duty land tax (SDLT).

A potential alternative remedy?

There has been a lot of discussion already about the possibility of landlords bringing professional negligence claims against those responsible for advising on these schemes. That seems to us to be certainly something worth consideration on the basis of the analysis we have seen. 

However, given the arrangement starts with a declaration of trust, another route which may be worthy of consideration is an application to Court by the landlord to set aside some or all of the arrangements on the grounds of mistake. The effect of a mistake application, if successful, is that the arrangement (or the relevant part of it) is set aside from the beginning and treated legally as if it never happened. The tax consequences will follow this. The precise implications would therefore need to be worked through carefully depending on exactly what is sought to be set aside – but it is possible that some or all of the negative tax consequences would no longer arise. Accordingly, provided that the legal requirements are met, a mistake application can offer the affected party an alternative means of resolving the tax issues (with significantly less time and costs than in adversarial litigation).

Mistake applications

As a basic matter, the requirements to set aside a transaction on the grounds of mistake are set out in the Supreme Court decision in Pitt v Holt [2013] UKSC 26. The doctrine applies only to voluntary transactions, such as a gift or declaration of trust. It is necessary to establish that:

1. there is a distinct causative mistake (as distinguished from mere ignorance). The Court may draw an inference of a conscious belief or tacit assumption from the evidence;
2. carelessness is not a bar, unless the taxpayer deliberately ran the risk of being wrong; 
3. the mistake must be sufficiently serious so as to render it unjust or unconscionable on the part of the donee to retain the property given to him.  The test is normally satisfied only when there is a mistake either as to the legal character or nature of a transaction or as to some matter of fact or law which is basic to the transaction; and
4. the injustice of leaving a mistaken disposition uncorrected must be evaluated objectively but with an intense focus on the facts of the particular case.

Importantly, a mistake as to the tax consequences of a transaction can qualify as a relevant mistake that will engage this doctrine. However, the English Courts have been unwilling to grant relief where the case involves “artificial tax avoidance”, either on the basis that the claimant deliberately ran the risk of the scheme going wrong or as a matter of public policy. Careful consideration would need to be given here as to whether the arrangements in question would be regarded by the Court as “artificial tax avoidance” and accordingly whether this would be a bar to relief.

Given the potentially disastrous consequences of these arrangements (as have been highlighted), affected landlords may want to give an application of this nature further consideration.  If successful, it could reverse some or all of the potential tax liabilities, although the precise consequences would need to be thought through carefully. That said, the conditions for establishing a relevant mistake are not straightforward to satisfy and taxpayers should seek expert legal advice before deciding to embark on any application.