Do directors have a duty to avoid paying tax?

September 2013

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What with all the recent press and public criticism of some well-known companies’ tax avoidance arrangements, company directors might be getting confused as to where their duties lie. Are they allowed to try to find legal means to minimise their tax bill? Do they have to?! Do they owe duties to their shareholders to try to distribute fewer profits by arranging their company affairs to pay as much tax as HMRC would clearly like them to pay? A legal opinion commissioned by an anti-avoidance activist body (meaning a body of activists which is anti-avoidance, not a body which is against avoidance activists) has recently been circulated to FTSE 100 companies.

Background:

The 2006 Companies Act sets out seven ‘general’ duties that directors owe to their company. The key duty is to act in the way you consider, in good faith, would be most likely to promote the success of your company for the benefit of its members (ie shareholders) as a whole.  Pre-2006 the common law duty (ie not set out in an Act but established over the years by court decisions) was to ‘act bona fide in the interests of the company’.  The courts have held that the new expression means the same as the old one. The courts have also confirmed that the test remains a subjective one, ie did the director honestly believe that he acted in a way most likely to promote the company’s success?

There has been quite a bit of debate about what the ‘success of the company’ means. It generally means ‘long-term increase in value’, but ultimately it is for the directors to decide. As the duty is owed for the benefit of the members, it seems logical that the directors have at least some regard for what the current members might say on this front.

The Act goes on to say that in considering what might promote the success of the company the director MUST  have regard (amongst anything else they consider relevant) to the following six factors:

• the likely consequences of any decision in the long term.
• the interests of the company’s employees.
• the need to foster the company’s business relationships with suppliers, customers and others.
• the impact of the company’s operations on the community and the environment.
• the desirability of the company maintaining a reputation for high standards of business conduct.
• the need to act fairly as between the members of the company.

The Act also says that directors have a general duty to act with reasonable care and skill, and this duty applies when having regard to the six factors.

The opinion

Earlier this month The Tax Justice Network, which is an anti-avoidance activist body (meaning a body of activists which is anti-avoidance, not  a body which is against avoidance activists) wrote to the chief executives of the FTSE 100 to tell them about a legal opinion which had been prepared by Farrer & Co. This opinion stated that directors didn’t have to worry about being challenged if they wanted to pay tax responsibly rather than structure around tax. They don’t have a specific fiduciary (good faith) duty to avoid tax. Paying lots of tax rather than trying to avoid paying much of it could be a perfectly legitimate use of their discretion as to how to act, bearing in mind the six factors, particularly the impact on the community, and the highest standards of business conduct, and what they might view the company’s success to look like. Although their company might technically become poorer as a result, eg with fewer distributable profits to pay to shareholders, the law would protect them from liability if their actions were subsequently challenged (by the company under future management, by annoyed shareholders, etc).

Comments

Legal opinions are designed to help their commissioners! Note that this opinion is from one end of the spectrum of possible opinions on this subject. It is clear that at the other end, or somewhere in the middle, is the opinion that each situation stands on its own merits, and it is still perfectly possible that a director who deliberately chooses not to carry out legitimate tax planning could be judged to be in breach of his duties.

Note that the opinion does not say that directors have a legal duty not to try to structure the way they do things in a way which can reduce the tax bill. They clearly don’t. The law has always allowed that. You couldn’t find any lawyer anywhere who would give such an opinion, however much you paid them. Tax avoidance has always been perfectly legal. Tax evasion (actually breaking lax laws) has always been illegal. It is up to the legislator to devise tax laws which tax what you are doing. However, whereas in the old days tax laws tended to be very specific, there is now more general anti-avoidance legislation, along the lines that you are not allowed to do anything if the main purpose is to avoid tax.

So times are changing. Whereas it always used to be considered an Englishman’s God-given duty to try to find legitimate loopholes to avoid paying tax, it is probably correct that the combination of the new codification of directors’ duties, combined with the relatively new ‘catch-all general anti-avoidance’ approach to tax legislation and a sea change in press and public opinion mean that this is now just a God-given right. But the way things are going, is this right eventually going to be legislated away?

Advice

When putting your board minutes together, whatever the meeting has been about, it’s always worth including something along the following lines:  “Following consideration, including consideration of the matters referred to in section 172(1) of the Companies Act 2006, IT WAS RESOLVED that [whatever the big idea is that the board meeting is there to approve] would promote the success of the Company for the benefit of its members as a whole, and IT WAS RESOLVED to [do specific things to implement the big idea]”.

One way or another, if you are making potentially sensitive decisions, it may be worth documenting your thinking, and your reasoning behind your decision being made to promote the success of your company, and how you have addressed the six factors. Make it absolutely clear that the main reason you are doing anything is for bona fide commercial reasons, and not primarily for the purpose of saving tax.