Supreme Court provides guidance on the interpretation of double tax treaties
The Supreme Court has handed down judgment in an appeal concerning the allocation of taxing rights between the UK and Canada. The case relates to income earned from the sale of oil found in the UK continental shelf in the North Sea. The appeal concerned the application of the UK/Canada double taxation treaty (the DTT) and whether the UK had a right to charge to tax payments made by BP Petroleum Development Ltd (BP) to Sulpetro and Royal Bank of Canada (RBC). The majority found in favour of RBC that the relevant payments were not subject to corporation tax.
Background
Sulpetro Ltd was an international company involved in exploiting North Sea oil and resident for tax purposes in Canada. It set up a UK subsidiary, Sulpetro (UK), which was granted a licence by the UK to explore the Buchan Field in the North Sea continental shelf.
It was agreed that Sulpetro would fund and provide expertise for the exploration and in return would receive Sulpetro (UK)’s share of the oil found. In 1986, BP acquired the share capital in Sulpetro (UK) and the oil rights that Sulpetro had under its agreement with Sulpetro (UK). In return, BP agreed to make payments to Sulpetro calculated by reference to the volume of oil BP acquired once the price rose above a certain level (the “Payments”).
Separately, Sulpetro was indebted to RBC and unable to repay its loan. By court order in 1993, the right to receive the Payments was assigned to RBC as a result of Sulpetro’s continued indebtedness.
The Supreme Court considered whether the UK had a right to charge to tax the Payments made by BP to Sulpetro and subsequently to RBC.
This required consideration of Article 6 of the DTT. This provides that income from immovable property may be taxed in the contracting state in which the property is situated. “Immovable property” includes rights to variable payments “as consideration for the working of, or the right to work, … natural resources”.
The issues
There were three issues considered by the Supreme Court in the appeal:
- What does the phrase “the working of, or the right to work” the Buchan Field mean, and does it encompass the rights that BP was paying for when making the Payments first to Sulpetro and later to RBC?
- If BP did acquire and so was making the Payments to Sulpetro for “the working of, or the right to work” the Buchan Field, are those Payments to be regarded as “consideration for” the right to work the Buchan Field within the meaning of Article 6(2)?
- If the Payments are covered by Article 6(2), so that the DTT conferred taxing rights on the UK in respect of the Payments, has the UK in fact exercised those rights and imposed a charge to tax in the domestic legislation? That turns on the proper interpretation of s. 1313 of the Corporation Tax Act 2009 and whether it catches the Payments.
The First-tier Tribunal and the Upper Tribunal held that the Payments were within Article 6 of the DTT and caught by section 1313, resulting in taxation by the UK. The Court of Appeal allowed RBC’s appeal and held that the UK did not have the right to tax the Payments under the DTT. HMRC appealed to the Supreme Court.
The Supreme Court’s judgment
Issue 1 - Right to work
HMRC argued that the agreement between the Sulpetro entities governing offshore activities gave Sulpetro the “right to work” the Buchan Field, which was then acquired by BP. However, the Supreme Court in its leading judgment considered it was Sulpetro (UK) which held the licence and was responsible for working the field. It noted that there is a legal difference between someone having a right to work natural resources and someone having a right to require another person to work those natural resources, with the conclusion being that Sulpetro had the latter but not the former.
Issue 2 – Consideration
As it was decided that Sulpetro did not acquire the right to work the Buchan Field, did not transfer that right to BP and did not receive the Payments in consideration of the right to work, issue 2 was dealt with briefly. The Supreme Court concluded that the Payments could not have been consideration for the right to work the Buchan Field. Even if the bundle of rights that Sulpetro acquired and effectively surrendered to BP in return for the Payments had amounted to the right to work, those rights would still have been too remote to fall within the definition of immovable property for DTT purposes.
The majority considered that what is caught by Article 6(2) and treated as immovable property is the contractual right to variable or fixed payments. This is different from the right to be paid for the sale of the oil itself, which is not caught by Article 6 because the oil is a movable (and not deemed to be immovable) property. The reach of Article 6(2) is not extended in the way that HMRC had sought to argue.
Issue 3 - Domestic legislation
As the court decided that the UK does not have the right under the DTT to tax RBC, the question whether the income would be taxable under s. 1313 did not arise. However, the majority stated that if the Payments had fallen within Article 6(2) of the DTT, they would have held that the UK had exercised its taxing rights in respect of those Payments and that they fell within the charge to corporation tax by virtue of s. 1313. The court noted that this should not have the effect that any payments made to those financing oil-related projects are caught, simply because they are computed by reference to the price of oil or because the money used to make payments has been earned from the sale of oil. Here, the Payments were much more closely related to the extraction of oil.
Comment
Interpretation of double tax treaties and allocation of taxing rights is an important component in an increasingly global approach to tax. Guidance by the Supreme Court in relation to the scope of Article 6 and the interpretation of the DTT is welcomed. Focusing on the carefully drafted provisions was emphasised, rather than adopting a broad consideration of the purpose of the provisions.
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