Companies which have overpaid tax due to a generally held but mistaken view of the effect of UK tax law may be prevented from seeking compensation for the full amount of their loss. This is the effect of draft legislation which has just been published.

Claims brought before 8 September are not affected by this change. This move is particularly topical for multinational groups considering seeking compensation for UK tax law breaching EU law.

Tax claims based on mistake of law

The new draft legislation reverses one aspect of the July 2003 High Court decision in Deutsche Morgan Grenfell v IRC. That case concerned the group litigation arising out of the 2001 decision of the European Court of Justice in Hoechst/Metallgesellschaft. It was held in that case that the UK’s advance corporation tax system (ACT) was in breach of EU law by denying UK companies with overseas parent companies the opportunity to avoid the requirement to account for ACT on payment of dividends by entering into a group income election with their parent.

Deutsche Morgan Grenfell decided that ACT had been paid by the claimant in that case under a mistake of law because it had failed to appreciate (as had the Revenue and all other taxpayers) that it could have made a group income election. This finding was crucial because the limitation period during which claims based on mistake of law must be filed (before they are time-barred) is generally six years from the discovery of the mistake. This is the effect of the rule in section 32(1)(c) Limitation Act 1980 in relation to claims based on mistake.

The High Court held that Deutsche Morgan Grenfell did not discover its "mistake" (payment of ACT) until the ECJ issued its decision in 2001. This meant that, provided a claim was made within six years of the ECJ decision, a claimant was able to claim compensation for ACT wrongly paid as far back, potentially, as the introduction of ACT in 1973.

Overpaid tax

As a general rule, claims in relation to overpaid corporation tax are restricted to accounting periods ending in the six years before the date the claim is made. This broadly mirrors the Revenue’s ability to recover underpaid tax. It is clear therefore that the Deutsche Morgan Grenfell decision had enormous cost implications for the Revenue, particularly as the same reasoning could potentially be applied to claims that other areas of UK tax law are incompatible with EU law or any other decision which reverses an earlier widespread view of the meaning of a provision in the Taxes Acts. The Revenue will appeal the Deutsche Morgan Grenfell decision but has decided to enact legislation to reverse the effect on the limitation period for claims for mistake in any event. The draft legislation will be included in the Finance Bill 2004.

The draft legislation

The draft legislation disapplies the extended limitation rule for claims brought after 7 September 2003 in relation to a mistake of law relating to any tax administered by the Revenue. These claims are now subject to the general limitation rule which applies to overpaid tax – which is that redress can only be sought in respect of tax overpaid for accounting periods ending in the six years prior to the making of the claim.

Claims issued before 8 September (including those on the group register of a group litigation order before 8 September) are not affected and continue to benefit from the extended limitation period for claims based on mistake.

Action point

Any company which was waiting to see the outcome of the cases involved in the Group Litigation Orders before issuing proceedings for recovery should now consider whether their ability to recover damages will be restricted if there is further delay.

By Heather Gething

© Herbert Smith 2003

The content of this article does not constitute legal advice and should not be relied on as such. Specific advice should be sought about your specific circumstances.

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