Scope of UK taxing rights on UK Continental Shelf oil production profits
Court of Appeal determines that UK/Canada Treaty did not permit the UK to exercise taxing rights over oil related profits.
CoA considers if the UK can tax oil profits
A recent case looks at whether the UK/Canada Double Tax Treaty (DTT) permits the UK taxing rights over a non-resident bank’s (the Bank) receipt of royalty payments (Payments). The Payments were contingent on the production from a UK oil field and calculated by reference to the price of the oil at the relevant time. The rights to receive the Payments arose following an assignment to the Bank by way of recovery of a bad debt in relation to a historical oil loan. The Court of Appeal (CoA) overturned the First-tier Tribunal’s (FTT’s) and Upper Tribunal’s (UT’s) earlier decisions, thereby allowing the Bank’s appeal. The CoA concluded that the DTT did not permit the UK to exercise taxing rights over the taxpayer’s receipt of the payments, and thus the payments were not subject to UK corporation tax.
The Bank had advanced a secured loan to a Canadian entity to fund oil exploration and exploitation activities within the UK Continental Shelf.
The Canadian entity ran into financial difficulties and went into insolvency. As a result, its right to receive the Payments from its UK subsidiary was assigned to the Bank for nil consideration.
HMRC successfully argued in both the FTT and the UT that the Payments were subject to UK corporation tax under the ring fence tax regime and that Article 6 (taxation of immovable property) of the DTT was not limited to payments made for the grant of rights.
The Bank appealed to the CoA on several grounds. Its main argument was that the FTT and UT had erred in their interpretation of the DTT as to the scope of Article 6. Only the rights of a grantor to receive payments from a grantee as consideration for the grant of a right to work mineral resources fell within the scope of Article 6 (and so were taxable in the UK).
The CoA (in considering the scope of Article 6) disagreed with both the FTT and the UT and was of the view that the better interpretation is that the Article is confined to rights to payments held by a person who has some continuing interest in the land in question, to which the rights can be attributed based on a close connection with the Source State. Whilst this is fairly straightforward to apply in relation to physical objects and interests in and rights to use land, it is less so when applying a purely contractual right to receive payments in exchange for the right to work land, particularly where that right is held by a person with no interest in the land.
The CoA in reaching its view relied on OECD commentary, other relevant provisions of the DTT, as well as the equally authoritative French text to support its narrower view of the construction of the relevant paragraphs of Article 6.
The CoA also disagreed with HMRC’s argument that even if the right to the Payments did not fall within Article 6(5), they were sufficiently connected with the exploitation of the UK’s Continental Shelf to constitute income from immovable property within Article 6(1). The CoA considered that a necessary link was required between the property in question and the State in which it is located. No such link, on the facts of the case, existed.
Given its conclusion regarding the application of the DTT to the Payments, the CoA refrained from expressing a conclusion as to whether section 1313 of the Corporation Tax Act 2009 applied in this instance and left this to be decided by a case in which it was relevant and necessary to determine that issue. The CoA did, however, note that in its view it is unclear how an interest in the sale proceeds from oil in the circumstances of this case can properly be described as ‘the benefit of’ the oil.
This decision will be of particular interest to others in the oil and gas industry where similar payment structures (as originally set up) are understood to be common, given the risk that there may be unintended charges to UK corporation tax under the ring fence tax regime. The decision is also of interest and adds to the increasing case law on the approach to the interpretation of DTTs.
