The purpose of a double tax treaty is to allocate taxing rights between the parties to the treaty in a way which avoids double taxation. As taxing rights of a party often depend on the place of residence of the taxpayer, it is important that a treaty has a mechanism to determine residence in the event that, under domestic rules, a taxpayer is dual-resident. Pre-BEPS, the mechanism used in many of the UK’s tax treaties was a tie-breaker based on the place of effective management (POEM). Although the UK has, post-BEPS, embraced a change away from that tie-breaker towards the Competent Authorities mutually agreeing the place of treaty residence (as discussed here), POEM should continue to be relevant as one of the factors likely to be taken into account by the Competent Authorities (see INTM120085 - Company residence: standard treaty tie-breakers - HMRC internal manual - GOV.UK). 

The Court of Appeal has recently considered in the case of Haworth and others v HMRC how the POEM test should be interpreted and applied in the context of the UK/Mauritius tax treaty for the purpose of determining the residence of a trust. Much of the reasoning of the case could apply equally to the determination of the treaty residence of a company. 

The taxpayer had used what is known as a “Round the World” scheme to avoid capital gains tax. A trust of which the taxpayer was settlor sold some shares and made a substantial gain. No capital gains tax (CGT) was payable, according to the taxpayer, because the initial UK trustees were replaced with Mauritian trustees who were responsible for selling the shares and then the UK resident trustees were reinstated. Tax was intended to be avoided through a combination of the UK/Mauritius double tax treaty and structuring to ensure the conditions for UK taxing provisions to apply were not met.

This case is long-running: the relevant disposal of shares took place in tax year 2000/2001.  HMRC’s attempt to speed up the process of recovering the tax with a follower notice and accelerated payment notice in 2016 (on the basis that the 2010 Court of Appeal ruling in favour of HMRC in Smallwood on a similar “Round the World” scheme would deny the taxpayer the advantage) failed. In a judicial review claim in which the Supreme Court in 2021 described the follower notice regime as “draconian”, the follower notice was quashed. The appeal on the substantive issue of whether the scheme worked is now working its way through the courts. All three of the First-tier Tribunal (FTT), Upper Tribunal and Court of Appeal have found in favour of HMRC that the scheme failed to achieve its objective and CGT is payable: the FTT was correct in its approach to determining the POEM of the trust.

On the facts it is clear that this is the correct result, but from a more general perspective, the key take-aways from Haworth (and earlier cases on treaty interpretation) that could equally be applied to determining treaty residence of a company are:

• A treaty should be given an international construction, not an exclusively English one, reflecting the fact that the treaty is a negotiated text between the contracting States. The unilateral practice on the part of one party cannot alter the meaning of a treaty.
• The POEM test is different to the central management and control (CMC) test which is applied under UK domestic law to determine whether a company is resident in the UK or not. The CMC test as articulated in Wood v Holden, looks to the place in which binding decisions are made by the authorised decision-making body, unless that function has been usurped. 
• There can only be one POEM, as it is the purpose of the treaty tie-breaker to determine one place of residence, whereas there can be more than one CMC (as a company may “keep house and do business” in more than one place).
• The POEM test looks at “realistic, positive management” or “real top level management” which allows matters to be looked at more broadly than for CMC. Where there is a scheme such as in Haworth, POEM is to be determined by looking at the circumstances in which the scheme was devised and implemented. In Haworth, this included considering the reason for the Mauritius trustees being appointed, the fact their role was pre-determined to further an “overall single plan”. The Court of Appeal concluded: “The Mauritius Trustees were (without impropriety) playing their parts in a script which had been written by others”.
• The POEM test does not take a snapshot approach looking only at the moment of disposal, but looks at whether there is a scheme of management going above and beyond the day-to-day management of the decision-makers for the time being.