BMBF No 24 Limited v Inland Revenue [2003] EWCA Civ 1560

Case No A3/2002/2635[2003] EWCA Civ 1560
IN THE SUPREME COURT OF JUDICATURE
COURT OF APPEAL (CIVIL DIVISION)
ON APPEAL FROM THE HIGH COURT OF JUSTICE
CHANCERY DIVISION
(MR JUSTICE ETHERTON)
Venue Royal Courts of Justice, Strand, London, WC2A 2LLDate 6 November 2003
B e f o r e :
LORD JUSTICE SIMON BROWN
LORD JUSTICE CHADWICK
and
LORD JUSTICE RIX
Between
BMBF (No 24) LIMITEDAppellantTHE COMMISSIONERS OF INLAND REVENUERespondents
Mr John Gardiner QC and Mr Jonathan Peacock QC (instructed by Slaughter and May, One Bunhill Row, London EC1Y 8YY) for AppellantMr Brian Green QC and Mr David Ewart (instructed by Solicitor of Inland Revenue, Somerset House, London WC2R 1LB) for Respondents
JUDGMENTLord Justice Chadwick :
[1]This is an appeal from the order made on 26 November 2002 by Mr Justice Etherton on an appeal by BMBF (No 24) Limited under section 56A of the Taxes Management Act 1970 against the decision of the special commissioners (Mr Theodore Wallace and Dr Nuala Brice) dated 12 December 2001 on an appeal by the taxpayer against the rejection by the Commissioners of Inland Revenue of a claim for writing-down allowances under section 24 of the Capital Allowances Act 1990. The appeal raises questions of some general importance as to the effect of section 42 of the Act in the context of finance leasing arrangements of plant and machinery to be used by non-residents for the purposes of a trade carried on outside the United Kingdom. Permission to appeal was granted by this Court on 27 February 2003. The underlying facts[2]BMBF (No 24) Limited ("BMBF 24") is a special purpose vehicle wholly owned by Barclays Mercantile Business Finance Limited, a subsidiary of Barclays Bank plc. Caterpillar Inc ("CI") is the manufacturer of heavy plant and earth-moving equipment at factories in Illinois, United States of America. Caterpillar International Leasing LLC ("CIL"), a limited liability company incorporated in Delaware, is a wholly owned subsidiary of CI. CIL is registered in the United Kingdom as an overseas company and is resident in the United Kingdom for tax purposes.[3]In late 1995 CI, CIL and BMBF 24 entered into arrangements the purpose of which was to enable CI to raise funds on the security of plant and machinery ("the equipment") on favourable terms by taking advantage of the availability of writing-down allowances under United Kingdom tax legislation. In broad terms the arrangements involved the acquisition of the equipment by BMBF 24, the grant of a finance lease by BMBF 24 to CIL and the grant of an operating lease by CIL to CI. The intended effect of the arrangements was that the availability of writing-down allowances to BMBF 24 would enable that company to offer more favourable rental terms under the finance lease than it would otherwise have done; so enabling CI to obtain finance on advantageous terms.[4]The equipment – which comprised cranes and hoists, factory furniture, production machinery and storage, handling and distribution equipment – was in use by CI for the purposes of its business in the United States. Although the equipment was capable of being removed from CI’s premises in Illinois, it was not intended that it should be; and, in fact, it was not removed. In November 1995 the equipment was inspected and appraised by an independent valuer, Mentor Valuations Inc of Chicago. On 14 December 1995 CI transferred title to the equipment to CIL. On 15 December 1995 Mentor issued a formal valuation letter, valuing the equipment at US$255 million.[5]On 18 December 1995 CI, CIL, BMBF 24 and others entered into the following transactions:(1) CIL agreed to sell and BMBF 24 agreed to purchase the equipment at a price of £165 million and otherwise upon the terms of an acquisition agreement of that date. BMBF 24 paid the sum of £165 million payable to CIL under that agreement on the same day.(2) BMBF 24 agreed to lease the equipment to CIL for a period of 30 years and 19 days upon the terms of a standard finance lease ("the headlease") bearing that date. The headlease provided for the payment of rent, escalating throughout the duration of the term, at levels which would amortise the lessor’s investment over the term.(3) Depository (Bermuda) Limited ("DBL"), a subsidiary of CI, placed approximately £146 million on deposit with Barclays Bank plc upon the terms of a deposit agreement and deed of assignment to which DBL, Barclays and BMBF 24 were parties. Interest was payable by Barclays to DBL on the deposit. DBL assigned the deposit to BMBF 24 as security for CIL’s obligations under the headlease.(4) By a guarantee and indemnity agreement, CI guaranteed to BMBF 24 the obligations of CIL under the headlease and of DBL under the deposit agreement and deed of assignment.(5) CIL and CI entered into an operating lease ("the sublease") under which CIL let the equipment to CI for a period of 11 years. The sublease was on the standard terms of an operating lease and provided for even rental payments over the term. BMBF 24 consented to the letting by CIL to CI on the terms of the sublease; and it was agreed between BMBF 24 and CIL (by letter dated 18 December 1995) that CIL could enter into further subleases of the equipment with the prior written consent of BMBF 24, such consent not to be unreasonably withheld if certain specified conditions were satisfied.(6) DBL granted BMBF 24 a put option under which DBL could be required to purchase the equipment at an option price in the event that, on the premature termination of the headlease, CIL failed to pay to BMBF 24 the termination payment for which the headlease provided. Sections 24 and 42 of the Capital Allowances Act 1990[6]The Capital Allowances Act 1990 ("CAA") consolidates earlier statutory provisions relating to capital allowances. Part II of the Act, in which both section 24 and 42 appear, is directed to allowances and charges in respect of plant and machinery. Section 24 CAA contains the basic rules in relation to writing-down allowances. Subsections (1) and (2) are in these terms, so far as material:
"24(1) Subject to the provisions of this Part, where— (a) a person carrying on a trade has incurred capital expenditure on the provision of machinery or plant wholly and exclusively for the purposes of the trade, and (b) in consequence of his incurring that expenditure, the machinery or plant belongs or has belonged to him, allowances and charges shall be made to and on him in accordance with the following provisions of this section. (2) Subject to subsection (3) below, for any chargeable period for which a person within subsection (1) above has qualifying expenditure which exceeds any disposal value to be brought into account in accordance with subsection (6) below, there shall be made to him — (a) unless the period is the chargeable period related to the permanent discontinuance of the trade, an allowance ("a writing-down allowance") equal to— (i) 25 per cent. of the excess, or (ii) . . . (b) if the period is the chargeable period related to the permanent discontinuance of the trade, an allowance ("a balancing allowance") equal to the whole of the excess."
Subsection (3) – to which subsection (2) is made subject - is not in point in the present case.[7]Section 42 CAA restricts the application of section 24 in the cases to which it applies. Subsection (1) is in these terms, so far as material:
"42(1) This section has effect with respect to expenditure on the provision of machinery or plant for leasing where the machinery or plant is at any time in the requisite period used for the purpose of being leased to a person who – (a) is not resident in the United Kingdom, and (b) does not use the machinery or plant exclusively for earning such profits or gains as are chargeable to tax . . . and where the leasing is neither short-term leasing nor the leasing of a ship, aircraft or transport container which is used for a qualifying purpose by virtue of section 39(6) to (9)."
In that context, "short-term leasing" is defined in section 40 CAA. It is common ground that neither the leasing under the headlease nor the leasing under the sublease is "short-term leasing" for the purposes of sections 40 and 42 CAA. "Qualifying purpose" is defined in section 39 CAA. It will be necessary to examine the provisions of that section in some detail later in this judgment. At this stage it is sufficient to note that while section 39(1) to (5) apply to plant and machinery generally, section 39(6) to (9) contain special provisions applicable only to ships, aircraft and containers. The "requisite period" is defined by section 40(4) CAA. In the present context (where the expenditure is ‘new expenditure’ for the purposes of section 50(3)) it is the period of ten years beginning with the date on which the machinery or plant is first brought into use by the person who incurred the expenditure.[8]Section 42(3) CAA provides that no balancing allowances or writing-down allowances shall be available in respect of expenditure falling within section 42(1) if the circumstances are such "that the machinery or plant in question is used otherwise than for a qualifying purpose" and the case falls within one or other (or more than one) of the following five paragraphs – that is to say, paragraphs (a) to (e) of section 42(3).[9]It is pertinent to note that (conceptually, at least) the words "for a qualifying purpose" in the phrase "machinery or plant in question . . . used otherwise than for a qualifying purpose" in section 42(3) CAA are wider in scope than the words "for a qualifying purpose by virtue of section 39(6) to (9)" which appear in section 42(1). The effect of the words in section 42(1) is to exclude from the reach of section 42 ships, aircraft and transport containers which are used for a qualifying purpose by virtue of the special provisions in section 39(6) to (9). Plant and machinery (not being ships, aircraft and containers) – and ships, aircraft and containers (not being used for a qualifying purpose by virtue of those special provisions in section 39) – is or are within the reach of section 42; and, if used for a purpose which is not a qualifying purpose within the more general provisions in section 39(1) to (5), is or are within section 42(3). In those cases, provided that the case also falls within one or more of paragraphs (a) to (e) of section 42(3), no writing-down allowances are available in respect of capital expenditure which would otherwise attract those allowances by virtue of the provisions in section 24(1) and (2) CAA.[10]It is common ground that paragraphs (a) to (e) of section 42(3) CAA describe features which would commonly be found in equipment finance leases; and which are, in fact, found in the headlease in the present case. For example, an equipment finance lease will commonly contain provision for a termination payment (paragraph (b)) and for escalating rental payments (paragraph (c)).

(c) to (e):

"42(3) No balancing allowances or writing-down allowances shall be available in respect of expenditure falling within subsection (1) above if the circumstances are such that the machinery or plant in question is used otherwise than for a qualifying purpose and - (a) . . . (b) . . . (c) disregarding variations made under the terms of the lease which are attributable to – (i) changes in the rate of corporation tax or income tax, or (ii) changes in the rate of capital allowances, or (iii) changes in any rate of interest where the changes are linked to changes in the rate of interest applicable to inter-bank loans, or (iv) changes in the premiums charged for insurance of any description by a person who is not connected with the lessor or the lessee, any of the payments due under the lease or under any [agreement which might reasonably be construed as collateral to the lease], expressed as monthly amounts over the period for which that payment is due, is not the same as any other such payment expressed in the same way; or (d) either the lease is expressed to be for a period which exceeds 13 years or there is, in the lease or in a separate agreement, provision for extending or renewing the lease or for the grant of a new lease so that, by virtue of that provision, the machinery or plant could be leased for a period which exceeds 13 years; or (e) at any time the lessor or a person connected with him will, or may in certain circumstances, become entitled to receive from the lessee or any other person a payment, other than a payment of insurance moneys, which is of an amount determined before the expiry of the lease and which is referable to a value of the machinery or plant at or after that expiry (whether or not the payment relates to a disposal of the machinery or plant)."
[11]In cases which, by virtue of section 42(1), fall within section 42 CAA but which are not within section 42(3) – because, for example, none of paragraphs (a) to (e) of section 42(3) are in point – the amount of the writing-down allowances to be made to the person who has incurred capital expenditure within section 24(1) is reduced to 10% of the qualifying expenditure. That is the effect of section 42(2) CAA, which is in these terms, so far as material:
"42(2) In their application to expenditure falling within subsection (1) above . . . , sections 24, 25 and 26 as they have effect – (a) in accordance with section 41; or . . . (f) with respect to machinery or plant to which section 61 applies shall have effect, subject to subsection (3) below, as if the reference in section 24(2) to 25 per cent. were a reference to 10 per cent."
[12]In broad terms, therefore, the position with respect to expenditure on plant or machinery for leasing, where the plant or machinery is "used for the purposes of being leased to" a non-resident who does not use it exclusively for earning profits chargeable to tax in the United Kingdom, may be summarised as follows:(i) if the "leasing" is either short-term leasing or the leasing of a ship, aircraft or transport container which is used for a qualifying purpose by virtue of the special provisions in section 39(6) to (9) ("permitted leasing" – see section 50(3) CAA), the right to 25% writing-down allowances under section 24 CAA is not affected;(ii) if the "leasing" is not permitted leasing, the writing-down allowances are either reduced to 10% or withdrawn altogether; and(iii) the allowances are withdrawn altogether if the circumstances are such that the machinery or plant is used otherwise than for a qualifying purpose within the general provisions of section 39(1) to (5) and the lease is a finance lease – that is to say a lease in respect of which one or more of the features described in paragraphs (a) to (e) of section 42(3) CAA are present.[13]In a case where the person ("the owner") who has incurred the capital expenditure in acquiring the plant or machinery – in consequence of which the plant or machinery belongs, or has belonged, to him for the purposes of section 24(1) CAA – and the non-resident person who uses the plant or machinery to earn profits which are not taxable in the United Kingdom (the "non-resident" – see section 50(3)) are, respectively, lessor and lessee under the same lease, the application of section 42 CAA presents little difficulty in principle. In such a case, there is only one lease in relation to which there can be inquiry whether features described in paragraphs (a) to (e) of section 42(3) are, or are not, present. That inquiry may, itself, raise questions of difficulty – as the history of this case illustrates – but there is no difficulty in identifying which is the relevant lease for the purposes of that inquiry. That difficulty arises where – as in the present case – the owner and the non-resident are not each party to the same lease; that is to say where – as in the present case – there is a headlease granted by the owner to a resident headlessee/sublessor and a sub-lease granted by the sublessor to the non-resident. In such a case the question arises whether the "lease" – for the purposes of the inquiry whether the features described in paragraphs (a) to (e) of section 42(3) are, or are not, present – is the headlease or the sublease. Or, to put the point in more general terms, whether the relevant lease is the lease granted by the owner (by whom the allowances will be claimed) or the lease granted to the non-resident (whose existence has led to the need for an inquiry under section 42(3) CAA). The issues which were before the special commissioners and the judge[14]The judge identified the issues which had been before the special commissioners – and which were before him – in paragraph 25 of the written judgment which he handed down on 26 November 2002:
"The following issues were before the Special Commissioners, namely: (1) whether the Equipment "belonged" to No. 24 for the purposes of s.24(1)(b) of the 1990 Act; (2) whether "the lease" referred to in s.42(3) is the Headlease or the Sublease; (3) if it is the Sublease, whether the conditions in s.42(3)(c), or (4) the conditions in s.42(3)(d), or (5) the conditions in s.42(3)(e), are satisfied; (6) whether No. 24 "incurred capital expenditure" of more than £19m "on the provision of" the Equipment, for the purposes of s. 24(1)(a), bearing in mind particularly the deposit of £146m."
As the judge pointed out, the special commissioners decided in favour of the Revenue on issues (1), (4) and (5); and decided in favour of BMBF 24 on issues (2), (3) and (6). Issues (1), (4) and (5) were the subject of the appeal to the High Court; and issues (2), (3) and (6) were raised on that appeal by a respondents’ notice served on behalf of the Revenue. Issue (6) was extended before the judge to a challenge whether, on the facts of the case and on the proper meaning of section 24(1)(a) CAA, BMBF 24 had incurred any capital expenditure at all on the provision of the equipment. The judge refused an application to amend the respondents’ notice so as raise the question whether expenditure on the provision of the equipment (if any) was wholly and exclusively for the purposes of its trade.[15]The judge, in a full and careful judgment, decided issue(1) in favour of BMBF 24; that is to say, reversing the special commissioners on this point, he held that the equipment did belong to BMBF 24 in the tax year 1995/96. But, again reversing the special commissioners on the point, he reached the conclusion, in answer to issue (2), that "‘the lease’ referred to in section 42(3)(a) to (e) is the lease by the owner of the machinery or plant, and so, in a chain of leases, the headlease". As he recognised, at paragraph 104 of his judgment, his conclusion on issue(2) was sufficient to dispose of the appeal before him, since it was common ground that the headlease to CIL "comprises machinery or plant used otherwise than for a qualifying purpose" and satisfied one or more of the provisions of paragraphs (a) to (e) of section 42(3) CAA. Nevertheless "in deference . . . to the extensive arguments of both sides on other issues of general importance to those engaged in the business of finance leasing" (as the judge put it) he addressed issues(3) to (5). He upheld the special commissioners on issues (3),(4) and (5); with the consequence, as he pointed out at paragraph 154 of his judgment, that even if he were wrong in his conclusion that the relevant lease was the lease by the owner of the machinery or plant, the special commissioners were nonetheless correct in holding that the features described in paragraphs (d) and (e) of section 42(3) CAA were present in relation to the sub-lease, so that (on that basis also) BMBF 24 was not entitled to writing-down allowances for the tax year 1995/96. The judge rehearsed, in outline, the arguments advanced on issue (6); but reached the conclusion that it was unnecessary, and would be inappropriate, for him to decide that issue. He was conscious that each party had contentions which they sought to advance in relation to the decision and reasoning of Mr Justice Park in Barclays Mercantile Business Finance Ltd v Mawson (HMIT) [2002] EWHC Ch 1525 was wrong; and that the judgment of this Court on an appeal from that decision was pending. The issues on this appeal[16]BMBF 24 appeals to this Court on issues (2), (4) and (5). If this appeal is to succeed the appellant needs to persuade the Court that the judge was wrong on each of those issues. By a respondents’ notice the Revenue cross-appealed on issues(1) and (3); but the cross-appeal on those issues has not been pursued. The Revenue sought, also, to uphold the order of 26 November 2002 on the basis that it was correct on issue (6) – an issue which, as I have said, the judge did not find it necessary to decide – but it has now recognised that, in the face of the judgments of this Court in the Mawson case [2002] EWCA Civ 1853, reported at [2003] STC 66, it cannot succeed on that issue here. Leave to appeal to the House of Lords has been granted in the Mawson case. The Revenue reserves its right to seek leave to argue issue (6) in the House of Lords in this present appeal, should there be an appeal to the House from the order which we make. In its skeleton argument, filed for the purposes of this appeal, the Revenue sought to introduce a further argument under issue(2) - which it described as "Issue (2A)". It contended, in the alternative to its primary argument, that the proper application of the Ramsay principle – recognised by the House of Lords in Ramsay (WT) Ltd v Inland Revenue Commissioners [1982] AC 300 and recently restated in MacNiven (HMIT) v Westmoreland Investments Limited [2001] UKHL 6, [2001] 2 WLR 377 – requires that "the headlease and the sub-lease by the conjoined means of which [BMBF 24] leased the equipment to CI on the terms of the headlease" must be treated as the relevant lease for the purposes of section 42(3) CAA. But we were told, shortly before the hearing of this appeal, that the House of Lords would be invited to reconsider, in the context of the Mawson appeal, its restatement of the Ramsay principle in MacNiven; and that, in those circumstances, the Revenue "would not press Issue 2A" before this Court. The Revenue reserves its right to seek leave to argue issue (2A) in the House of Lords, should there be an appeal from the order which we make.[17]At the hearing of this appeal, therefore, the issues before this Court were: (2) whether the relevant lease for the purposes of the inquiry under paragraphs (d) and (e) of section 42(3) CAA was the headlease (as the Revenue contends) or the sublease (as BMBF 24 contends); and, if the sublease, then (4) whether there was provision for extending or renewing that lease (or for the grant of a new lease) so that the equipment could be leased for a period in excess of 13 years (section 42(3)(d) CAA) and (5) whether the lessor or a person connected with him would or might become entitled to receive a pre-determined amount referable to a value of the plant or machinery at or after the expiry of the lease (section 42(3)(e) CAA). After hearing full argument from both parties on issue (2) we indicated that we did not find it necessary to hear argument on issues (4) and (5). The legislative development of writing down allowances[18]Before turning to a more detailed examination of the provisions now found in Chapter V (Leased Assets) of Part II (Machinery and Plant) of the Capital Allowances Act 1990 it is convenient to have in mind the process by which writing-down allowances have been introduced in successive legislation. This section of the judgment draws heavily upon an agreed note helpfully provided to the Court by all counsel after the conclusion of oral argument.[19]The computation of profits in accordance with generally accepted accounting practice will take account of the fact that plant and machinery acquired by a person carrying on a trade will depreciate over time. A measure of that depreciation will be reflected in accounts prepared to show a true and fair view of the trader’s affairs. But, absent express provision in the taxing legislation, no deduction in respect of depreciation can be made in the computation of profits for tax purposes – see section 159 of the Income Tax Act 1842 and, now, sections 74 and 817 of the Income and Corporation Taxes Act 1988.[20]Provision for a deduction in respect of depreciation – or "wear and tear" – was first made by section 12 of the Customs and Inland Revenue Act 1878. That section required the Commissioners, in assessing the profits of a trade, to allow "such deduction as they may think just and reasonable as representing the diminished value by reason of wear and tear during the year of any machinery or plant used for the purposes of the concern, and belonging to the person or company by whom the concern is carried on". That became rule 6(1) of the rules applicable to Cases I and II of Schedule D – see section 1 of, and the First Schedule to, the Income Tax Act 1918. The provision removed the tax disincentive to the acquisition of capital assets for use in trade; but it provided no positive tax incentive to invest in such assets.[21]A positive tax incentive to invest was first provided by provisions in Part II of the Income Tax Act 1945. Section 15 provided for an initial, or first year, allowance equal to one fifth (20%) of the capital expenditure incurred on the provision of machinery or plant for the purposes of the trade. Section 16(2) of the 1945 Act provided for a writing-down allowance in subsequent years equal to five/fourths of the amount that would otherwise have been allowed under rule 6(1) in respect of "wear and tear".[22]That regime – which may, perhaps, be described as providing for an "up-lifted wear and tear allowance" – was continued, on consolidation, in Chapter II (Machinery and Plant) of Part X (Reliefs for Certain Capital Expenditure) of the Income Tax Act 1952. But, under the provisions enacted in 1952, annual allowances on account of wear and tear were computed by reference to the capital expenditure incurred in the provision of the machinery or plant by the person to whom the allowance was to be made - see sections 280 to 282 of the 1952 Act. More precisely, the annual allowance was to be five-fourths of the percentage of the reducing balance year on year (section 281(1) of the 1952 Act) unless the person to whom the allowance was to be paid elected for an alternative "straight-line" method of calculation (section 282 of that Act).[23]Relevant percentages, for the purpose of sections 281 and 282 of the 1952 Act, were determined by the Commissioners as appropriate in relation to machinery and plant of the class in question. The object was to select a percentage which, if applied year on year to a reducing balance (section 281(3) of the 1952 Act) or on a straight line basis (section 282(3) of that Act) would have the effect of amortising 90% of the acquisition cost over the anticipated normal working life of machinery or plant. That may be seen as reflecting generally accepted accounting principles; and as a measure of the appropriate commercial amount of depreciation. The incentive was provided by the 25% uplift which was given by fixing the annual allowance at five-fourths of what would be the appropriate commercial amount. Save that the description "annual allowance" was replaced by the new term, "writing-down allowance", the regime remained substantially unchanged on the 1968 consolidation – see sections 19 to 21 in Chapter II of Part I of the Capital Allowances Act 1968.[24]The position altered with the enactment of the provisions in Chapter I of Part III (New System of Allowances and Charges in respect of Trade (etc.) Machinery and Plant) of the Finance Act 1971. Sections 41 and 42 provided for first year allowances of up to 100% of the capital expenditure on the provision of machinery or plant for the purposes of a trade; although the normal first year allowance was 60% of that expenditure – see section 42(1) of the 1971 Act. Section 44(1) continued the principle of annual writing-down allowances. But section 44(2), read in conjunction with section 44(4) (qualifying expenditure) and 44(5) (disposal value) altered the basis of computation by fixing the amount of those allowances at 25% of the reducing balance. That may be seen as severing the link with the "wear and tear" basis previously applicable.[25]The provisions subsequently re-enacted as section 42 of CAA 1990 were introduced by section 70 of the Finance Act 1982. The effect of those provisions was to withdraw first year allowances, as well as writing-down allowances, in cases which fell within section 70(4) of that Act – subsequently re-enacted as 42(3) CAA 1990 – and to reduce the 25% rate to 10% in other cases within section 70(1).[26]First year allowances under section 41 of the 1971 Act were progressively withdrawn by section 58 of, and schedule 12 to, the Finance Act 1984. They were reintroduced, on a selective basis, by section 22 of CAA 1990. Sections 44(1) and (2) of the 1971 Act were re-enacted as sections 24(1) and (2) of the 1990 Act. They are now found in sections 11(4), 55(1) and (2) and 56(1) of the Capital Allowances Act 2001.[27]In cases where the machinery or plant had a short useful economic life, the fixed 25% rate applied to a reducing balance, for which section 44 of the 1971 Act provided, was unrealistic. This was recognised in the Finance Act 1985, which provided, at section 57, that a trader might elect to treat the machinery or plant as a "short-life asset". The effect was to accelerate (through a separate pool regime) the benefit of 25% writing-down allowances on machinery or plant with a predicted life of no more than four years. Election was not available in respect of machinery or plant leased outside the United Kingdom in circumstances where section 70 of the 1982 Act restricted the writing-down allowance to 10% - see paragraph 11 of schedule 15 to the 1985 Act. The provisions were re-enacted as Chapter IV (Short-life Assets) of CAA 1990.[28]Save in a case where the anticipated normal working life of machinery or plant was less than eleven years, the fixed 25% rate for which section 44 of the 1971 Act provided would exceed five-fourths of the relevant percentage, determined under section 281(3) of the 1952 Act. To put the point another way, in cases where the machinery or plant would normally be written off over (say) ten years or more, the 25% writing down allowance introduced in 1971 was more generous than the previous allowances. In cases where the useful economic life of the asset exceeds twenty years, the 25% writing-down allowance may be seen as over-generous. This class of case has been addressed, since the enactment of CAA 1990, by section 84 of, and schedule 14 to, the Finance Act 1997. Schedule 14 of the 1997 Act contains provisions which have effect as Chapter IVA of CAA 1990. They restrict the rate at which expenditure on long-life assets (that is to say, machinery or plant which, as new, could reasonably be expected to have a useful economic life of at least twenty-five years) to 6% - section 38F(1) CAA. Section 42(2) CAA is amended (with effect from 26 November 1996) to exclude expenditure to which Chapter IVA of the 1990 Act applies. The provisions are now found in section 102 of the Capital Allowances Act 2001.[29]The pattern of development in respect of writing down allowances may be summarised as follows:(1) Absent express provision in the legislation, no deduction in respect of depreciation can be made in the computation of profits for tax purposes. That operates – or would operate, if no express provision were made – as a disincentive to investment in machinery or plant, because it has the effect that the trader is taxed on profits which, in accordance with generally accepted accounting principles, are overstated.(2) That a disincentive to the acquisition of machinery or plant for use in trade is, in principle, undesirable, was recognised as long ago as 1878. The legislative changes made in that year had the effect - and may be assumed to have been calculated to have the effect – of achieving fiscal neutrality; in that the trader became entitled to a deduction from profits of an amount in respect of "wear and tear" equivalent, if not equal, to a commercial amount of depreciation.(3) Fiscal neutrality changed to fiscal incentive in 1945, with the introduction of a 25% uplift on the amount that would otherwise have been allowed in respect of "wear and tear".(4) That incentive was preserved in the 1952 consolidation; but with a closer correlation between the amount to which the 25% uplift was to be applied and the appropriate commercial amount of depreciation.(5) The direct link between the annual allowance – or "writing-down allowance" as it was to become in 1968 – and an appropriate commercial amount of depreciation was abandoned in 1971 in favour of an allowance of 25% of the reducing balance.(6) The allowance of 25% of the reducing balance is unrealistic in cases where the useful economic life of the machinery or plant is four years or less; and becomes increasingly generous as the expected useful economic life of the machinery or plant extends from ten to twenty years. The first of those features was addressed by the Finance Act 1985 – election for plant and machinery to be treated as a short-life asset. The second has been addressed, since the enactment of CAA 1990, by reducing the rate applicable to long life assets to 6%. In the one case (short-life assets), no election can be made if the case falls within section 42(2) CAA. In the other case (long-life assets), the 10% writing-down rate for which section 42(2) provides is not available.[30]It is appropriate, therefore, as it seems to me, to approach the question posed by this appeal –"which is the relevant lease?" – on the basis that the overall purpose of the statutory scheme of which section 42 CAA forms part is to provide a fiscal incentive to the acquisition by purchase of machinery or plant to be used by a trader for the purposes of his trade; but that there is some degree of fine-tuning so as to avoid, on the one hand, cases where the scheme will provide no incentive and, on the other hand, (since 1996) cases where the incentive will be over generous. Against that background, it can be seen that cases within section 42 CAA – that is to say, cases where the machinery or plant are leased to a non-resident who does not use it exclusively for earning profits taxable in the United Kingdom – are cases in which the legislature intends no fiscal incentive. Further, although it may be said that the treatment of cases within section 42(2) is fiscally neutral, cases within section 42(3) are those which the legislature intends the fiscal disincentive to remain unalleviated. In cases within section 42(3) CAA the owner is taxed on profits which, applying generally accepted accounting principles, he has not earned.

(i) section 42(1) CAA

[31]Section 42(1) CAA applies the provisions of subsections (2) and (3) of that section to expenditure "on the provision of machinery or plant for leasing" where two conditions are satisfied. Those conditions are(i) that the machinery or plant is at any time in the requisite period "used for the purpose of being leased" to a non-resident who does not use it exclusively for earning taxable profits (the ‘non-resident’ condition) and(ii) that "the leasing" is neither short term leasing nor the leasing of a ship, aircraft or transport container which is used for a qualifying purpose by virtue of section 39(6) to (9) (the ‘permitted leasing’ condition).[32]It is clear - and, I think, accepted - that the first reference to leasing in section 42(1) must be a reference to leasing by the person who has incurred the expenditure in respect of which allowances would (but for the later provisions in section 42) fall to be made under section 24 CAA – read, where appropriate, in conjunction with section 61 CAA. It is also clear that the reference to "beingleased", in the non-resident condition, must be a reference to the lease to the non-resident; so that, in a case where there is a chain of leases, section 42 will be engaged (subject to the permitted leasing condition) where one of the sub-leases in the chain is to a non-resident who does not use the machinery and plant exclusively for earning taxable profits. But the parties do not agree whether, in such a case, the subsequent references to "leasing" (that is to say, the references in the permitted leasing condition) are to the headlease or to the relevant sublease (that is to say, the sublease to the non-resident).[33]The Revenue contends that linguistic consistency requires that the "leasing" referred to in the permitted leasing condition is the same "leasing" as that first referred to in section 42(1); that is to say, to leasing by the owner (or headlessor). As it is put, at paragraph A14(16) of the Revenue’s skeleton argument, "That the repeated use of the same word in the same sub-section should have the same meaning is in the Revenue’s submission self-evident". BMBF 24 contends that the "leasing" referred to in the permitted leasing condition may be either the leasing by the owner (or headlessor) or the leasing to the non-resident sublessee. As it is put at paragraph 102 of the BMBF 24’s skeleton argument. " . . . if either the lease entered into by the finance lessor or the lease to the non-resident person is "short term leasing" or the leasing of a "ship" [etc] within s.39(6)-(9) then s.42 does not apply."[34]The argument that the "leasing" referred to in the permitted leasing condition in section 42(1) CAA includes the leasing to the non-resident sublessee finds support in the provisions of section 48(1) to (3) of that Act:
"48(1) Where new expenditure is incurred on the provision of machinery or plant and, before the expenditure has qualified for a normal writing-down allowance, it is used for leasing to a non-resident and that leasing is permitted leasing, a claim for a writing-down allowance which takes account of that expenditure shall be accompanied by a certificate to that effect, setting out the description of permitted leasing. (2) If, after any new expenditure has qualified for a normal writing-down allowance, the machinery or plant in question is at any time in the requisite period used for the purpose of being leased to a non-resident, otherwise than by permitted leasing, the person to whom it belongs at that time shall give notice of that fact to the inspector. (3) Subject to subsection (6) below, notice under subsection (2) above shall be given within three months after the end of the chargeable period or its basis period in which the machinery or plant is first used for leasing to a non-resident otherwise than by permitted leasing."
In that context "permitted leasing" means "short-term leasing or the leasing of a ship, aircraft or transport container which is used for a qualifying purpose by virtue of section 39(6) to (9)" – see section 50(3) CAA. "Permitted leasing" is leasing of the kind to which reference is made in what I have described as the permitted leasing condition of section 42(1). So, it is said, section 48(1) to (3) – which is plainly dealing with a question which can be expected to arise in the context of a claim for writing-down allowances in respect of expenditure on machinery or plant which is used for leasing to a non-resident – recognises that regard may be had to the leasing to the non-resident for the purpose of determining whether the permitted leasing condition of section 42(1) is satisfied.[35]The judge recognised the force in that submission. But he did not accept it; for the reasons set out at paragraph 83 of his written judgment. He said this "In my judgment, contrary to first impression, s.48(1) to (3) do not lead to any clear indication that the last three references to "leasing" in s.42(1) are to the lease to the non-resident, if that is not the same as the lease by the owner of the machinery or plant. Save, possibly, in a case in which the first use by the owner of machinery or plant is a lease to a UK resident and, at the same time and as part of the same preconceived scheme, the property is leased to a non-resident, I agree with [counsel for the Revenue] that s.48(1) is directed to a situation in which it is the grant of a lease by the owner to a non-resident which has occurred. Bearing in mind the imprecision of the draftsman in the expressions which he has used in s.48(1) to (3) (which may be attributable to the fact that s.48 derives from a different statutory origin from s.42), and the uncertainty and imprecision that would result in the meaning of s.42(1) if [counsel for BMBF 24]’s interpretation of s.48(1) is correct, (namely, that the last three references to "leasing" in s.42(1) could either be to both the headlease and the lease to the non-resident (if different), or alternatively only to the lease to the non-resident), I consider that the interpretation of s.42(1) of [counsel for the Revenue] is, on balance, to be preferred. I should point out, however, that [counsel] himself accepted that his submissions on the proper meaning of "leasing" in s.42(1) are not critical to his case on s.42(3)."[36]For my part I do not find that reasoning persuasive. It is not clear to me what the judge had in mind when he referred to "the imprecision of the draftsman in the expressions which he has used in s.48(1) to (3)". Although he was correct to point out that the statutory antecedents of section 48 CAA are not the same as those of section 42, he appears to have overlooked the fact that section 48 and the second element in the permitted leasing condition of section 42(1) ("nor the leasing of a ship, aircraft or transport container which is used for a qualifying purpose by virtue of section 39(6) to (9)") do have a common origin. Both were introduced by section 57 of, and schedule 16 to, the Finance Act 1986 – see paragraphs 5(1) and 10 of schedule 16, and (for the origin of the expression "permitted leasing") paragraph 7(1)(d) of that schedule. It is, I think, plain that section 48 CAA is directed, specifically, to leasing of the kind to which reference is made in the permitted leasing condition of section 42(1). And it is important to keep in mind that "non-resident" means, for the purposes of section 48 CAA, "such a person as is referred to in section 42(1)(a) and (b)" – see section 50(3). The expression "used for leasing to a non-resident" has the same meaning, in the context of section 48 CAA, as the phrase "used for the purpose of being leased to a person who . . . is not resident in the United Kingdom . . . " in the context of section 42(1).[37]I have no doubt that the judge was correct to think that section 48 CAA was directed, primarily, to the situation where the owner has granted a lease to a non-resident. Indeed, I have no doubt that that is the situation to which, primarily, section 42(1) is directed. But where the sections have to be given meaning in a context where "the first use by the owner of machinery or plant is a lease to a UK resident and, at the same time and as part of the same preconceived scheme, the property is leased to a non-resident" it is necessary to ask whether, if the lease to the non-resident is "permitted leasing", Parliament intended that section 42 CAA should operate so as to deny (or reduce) the writing down allowances to which the owner would otherwise be entitled under section 24 CAA. I cannot see why the relevant provisions lead to the conclusion that Parliament did so intend. Section 42 has no application where there is a lease by the owner to a non-resident if the lease is permitted leasing. The section has no application to a finance lease to a UK resident if there is no onward lease to a non-resident. Why (in the absence of clear words) should Parliament be taken to have intended that the section would apply to reduce or deny the writing down allowances available to the owner who has granted a finance lease to a UK resident where the onward leasing to the non-resident is permitted leasing – that is to say, where the onward lease is a lease which, if entered into between the owner and the non-resident lessee, would not have given rise to a reduction or denial of allowances under section 42 CAA? I think that BMBF 24 is correct to submit that, for the purposes of what I have described as the permitted leasing condition of section 42(1) CAA, it is enough that the lease to the non-resident is permitted leasing. (ii) section 42(3) CAA[38]It does not follow that, in a case where there is a chain of leases, "thelease" to which reference is made in each of the five paragraphs of section 42(3) CAA is the sublease to the non-resident user. The effect of section 42(1) – in a multi-lease case - is that the availability of writing down allowances to the person who has incurred expenditure on the provision of machinery or plant for leasing is not affected by a lease to a non-resident if the leasing to the non-resident is permitted leasing. But, if the lease to the non-resident user is not permitted leasing, then the restrictions on the availability of writing-down allowances to the person who has incurred the expenditure – imposed by section 42 CAA – are applicable. The question, then, is whether it is section 42(2) or 42(3) that is in point. And, as it seems to me, there is no reason to suppose that Parliament intended that that question should be answered exclusively by reference to the lease to the non-resident and without regard to the lease granted by the owner. All that can be said, at this stage, is that (other than in cases where the leasing is permitted leasing) Parliament intended to restrict the availability of writing down allowances in cases where machinery or plant (expenditure on the provision of which for leasing would otherwise qualify under section 24 CAA) is used for the purpose of being leased to a non-resident. The question whether, in cases within section 42, the restriction has the effect that no allowances are available, or that reduced allowances are available, turns on whether the case falls within section 42(2) or section 42(3). More precisely, the question turns on the effect of section 42(3), to which section 42(2) is made subject.[39]Section 42(3) CAA is in point where each of three conditions is satisfied:(i) the expenditure (in respect of which allowances would otherwise be available) is expenditure within section 42(1);(ii) the circumstances are such that the machinery or plant (on the provision of which the expenditure has been incurred) is used "otherwise than for a qualifying purpose"; and(iii) one or more of the features described in paragraphs (a) to (e) are present. If condition (i) is met, but either of conditions (ii) or (iii) are not met, then section 42(3) is not applicable. In such a case, the provisions of section 42(2) apply so as to reduce the amount of the writing-down allowances from 25% to 10%. (iii) use otherwise than for a qualifying purpose; the second cumulative condition[40]It was submitted on behalf of BMBF 24 that, if the relevant lease for the purposes of section 42(3) CAA is the headlease (as the Revenue contends), the condition which I have identified as cumulative condition (ii) in section 42(3) CAA ("the second cumulative condition") is nothing more than a repetition of the "permitted leasing" condition of section 42(1). So, it is said, the Revenue’s contention would lead to the conclusion that, if the expenditure falls within section 42(1) – the first cumulative condition in section 42(3) – the second cumulative condition is otiose: it is inevitable, in such a case, that the machinery or plant is used otherwise than for a qualifying purpose. Parliament cannot have intended that the second cumulative condition should be otiose. Accordingly, the Revenue’s contention that the relevant lease for the purposes of section 42(3) CAA is the headlease must be rejected. I do not accept the premise upon which that submission is based.[41]It is important to keep in mind that – whatever may be the effect of section 42 CAA in a case where there is a chain of leases – the section was intended to have effect in cases where there is a single lease; that is to say a lease by a UK resident owner to a non-resident user. In such a case there can be no argument that it is that single lease which is the relevant lease for the purposes of section 42(3): there is no other candidate. In such a case, the role of the second cumulative condition in section 42(3) CAA can, perhaps, best be seen by looking back to its statutory predecessor, section 70(4) of the Finance Act 1982, in which the relevant provisions were first introduced.[42]Section 70(4) of the 1982 Act was in these terms, so far as material:
"70(4) No first year allowances, balancing allowances or writing-down allowances shall be available in respect of expenditure falling within subsection (1) above if the circumstances are as mentioned in subsection (3)(b) above and – (a) . . . .

(e) "

[emphasis added] Expenditure fell within section 70(1) of the 1982 Act, as originally enacted, if it was:
"70(1) . . . expenditure on the provision of machinery or plant for leasing where the machinery is at any time in the requisite period used for the purpose of being leased to a person who – (a) is not resident in the United Kingdom, and (b) does not use the machinery or plant for the purposes of a trade carried on there or for earning profits or gains chargeable to tax . . ., and where the leasing is not short term leasing."
Section 70(1) of the 1982 Act did not contain the full "permitted leasing" exclusion, added by the Finance Act 1986 and now found in section 42(1) CAA 1990.

(b) of the 1982 Act was in these terms:

"70(3) . . . (b) the circumstances are such that the machinery or plant is used otherwise than for a qualifying purpose, within the meaning of section 64 of the Finance Act 1980 (exclusion of first-year allowances for certain leased assets)."
[43]The meaning given to "qualifying purpose" by section 64 of the Finance Act 1980 appears from subsection (2) of that section, read with subsections (5) to (7). Section 64(2) of the 1980 Act was in these terms:
"64(2) Machinery or plant is used for a qualifying purpose at any time when – (a) it is leased to a lessee who uses it for the purposes of a trade, otherwise than for leasing, and the circumstances are such that a first-year allowance could have been made to the lessee if he had bought the machinery or plant at that time and had incurred capital expenditure in doing so; or (b) the person who incurred the expenditure uses it for short-term leasing; or (c) it is leased to a lessee who uses it for short-term leasing and either is resident in the United Kingdom or so uses it in the course of a trade carried on by him there; or (d) the person who incurs the expenditure uses it for the purposes of a trade otherwise than for leasing."
Section 64(5) to (7) extended the meaning of "qualifying purpose" in cases where the asset was a ship, aircraft or transport container. The scope of section 64(5) and (6) was restricted by the introduction, by section 71 of the Finance Act 1982, of a new subsection (6A).[44]The purpose and effect of the words in section 70(4) of the 1982 Act – "if the circumstances are as mentioned in subsection (3)(b) above" – are not in doubt. First year allowances, balancing allowances and writing-down allowances were not wholly withdrawn – if, under the provisions of section 70(1), they otherwise would be - if the case fell within one or other of the four paragraphs of section 64(2) of the 1980 Act which I have just set out ("the general provisions" defining qualifying purpose), or within one or other of sections 64(5) to (7) of that Act (the "special ship, etc, conditions"). That reflected the decision not to withdraw first year allowances in such cases, to which effect had been given by section 64(1) of the Finance Act 1980. But, although such cases were excluded from section 70(4) of the 1982 Act, they were not excluded from the reduction of the applicable rate (from 25% to 10%) effected by section 70(2) of that Act.[45]It is, I think, reasonably clear that, if the case fell within paragraph (b), (c) or (d) of section 64(2) of the 1980 Act, it would have been excluded from the reach of section 70 of the 1982 Act by section 70(1). But that did not deprive the "qualifying purpose" exclusion in section 70(4) of any effect. It was in point in a case which fell within paragraph (a) of section 64(2) of the 1980 Act; and, as enacted, it was in point in cases which (not being within paragraphs (b), (c) and (d) of section 64(2)) fell within section 64(5) to (7) – the special ship, etc provisions.[46]As I have said, section 70(1) of the 1982 Act contained no provision comparable to the final words of section 42(1) CAA 1990 ("nor the leasing of a ship, aircraft or transport container which is used for a qualifying purpose by virtue of section 39(6) to (9)"). Those final words (which exclude from the scope of section 42 CAA 1990 cases within the special ship, etc, provisions) were first introduced, with respect to new expenditure (that is to say, expenditure incurred on or after 1 April 1986), by section 57 of, and paragraph 5(1) of schedule 16 to, the Finance Act 1986. Paragraph 5(3) and (4) of schedule 16 to the 1986 Act replaced the reference to section 70(3)(b), formerly in section 70(4) of the 1982 Act, with the words "such that the machinery or plant in question is used otherwise than for a qualifying purpose, within the meaning of section 64 of the Finance Act 1980". It is clear, therefore, that Parliament decided, when enacting the 1986 Act, that cases within the special ship, etc, provisions should be treated, in the context of section 70 of the 1982 Act (Allowances for assets leased outside the United Kingdom), in a manner which differed from the treatment of machinery or plant used for a qualifying purpose by virtue of section 64(2)(a) of the 1980 Act. Between 1986 and 1990 the latter fell (at least prima facie) within section 70(2) of the 1982 Act and attracted writing-down allowances at the rate of 10%; the former (together with cases within section 64(2)(b), (c) and (d) of the 1980 Act) were excluded from section 70 of the 1982 Act altogether, and continued to attract allowances at the 25% rate.[47]That position established by the amendments made in 1986 was preserved on consolidation in 1990. The general provisions defining qualifying purpose, formerly found in paragraphs (a) to (d) of section 64(2) of the 1980 Act, were re-enacted as section 39(2) to (5) of CAA 1990. The special ship, etc, provisions, formerly found in section 64 (5) to (7) of the 1980 Act were re-enacted as section 39(6) to (9) CAA 1990. There can be no doubt, therefore, that the second cumulative condition in section 42(3) CAA (that is to say, the words "if the circumstances are such that the machinery or plant in question is used otherwise that for a qualifying purpose") was intended to exclude from the scope of section 42(3) cases within section 39 which were not already excluded from section 42 altogether by section 42(1). Nor can there be any doubt that Parliament thought that there were such cases; nor that it was right to think so. The effect of the second cumulative condition is to take out of section 42(3) CAA cases within section 39(2).[48]BMBF 24 sought support for its contention that the second cumulative condition in section 42(3) CAA added nothing to the permitted leasing condition in section 42(1) by reference to the provisions of sections 46(1) and (2). Section 46 is in these terms, so far as material:
"46(1) Where new expenditure incurred by any person in providing machinery or plant has qualified for a normal writing-down allowance and the machinery or plant is at any time in the requisite period used for the purpose of being leased to a non-resident, otherwise than by permitted leasing – (a) an amount equal to the excess relief shall, in relation to the person to whom the machinery or plant then belongs, be treated as if it were a balancing charge to be made on him for the chargeable period in which the machinery or plant is first so used; . . . (2) The excess relief is the excess, if any, of - (a) any normal writing-down allowances made in respect of new expenditure for the chargeable period related to the incurring of the expenditure and any subsequent chargeable period up to and including that mentioned in subsection (1)(a) above, over (b) the maximum writing-down allowance or allowances that could have been made in respect of the expenditure for those chargeable periods if no normal writing-down allowance had been or could have been made."
It is pointed out on behalf of BMBF 24, correctly, that section 46 "seeks to regulate the position where a lessor qualifies for WDAs at 25% (because s.42 does not apply) but later the machinery is leased (or sub-leased) to a non-resident person thus giving rise to circumstances in which the WDAs should for consistency be reduced to 10% or 0%." This it is said, again correctly, "is achieved by recovering the "excess" allowances but only where the leasing to the non-resident person which triggers the application of the ‘claw back’ is not "permitted leasing"". But the submission is then made, at paragraphs 110 and 111 of BMBF 24’s skeleton argument, that:
"Significantly, here the draftsman excludes from the operation of s.46(1) exactly the same class of case (short-term leasing and the leasing of a ship etc) as is excluded in the closing lines of s.42(1) – no more, no less. This is so both as regards a case where the claw back is 15% (because allowances given at 25% should have been given at 10% - ie there is a lease to a non resident which complies with s.42(3)) and a case where the claw back is 25% (because allowances given at 25% should have been given at 0% - ie there is a lease to a non resident which breaches s.42(3)) – see s.46(2). . . . The Revenue contend that the words "otherwise than for a qualifying purpose" in s.42(3) provide a further ‘let out’ (additional to the closing two lines of s.42(1)). The purpose of s.46 is to effect a claw back of WDA’s where circumstances change. It is significant that s.46 makes no provision for any further ‘let out’ – ie for the reduction from allowances from 10% to 0% to be avoided in any wider class of case than is found in the closing two lines of s.42(1). This clearly points against the Revenue’s contention."
[49]I confess to finding the reasoning in those paragraphs of the skeleton difficult to follow. Section 46 CAA 1990 was introduced by Part II of schedule 16 to the Finance Act 1986 – see paragraph 8 of that schedule. It must be read in the context of the changes effected by the 1986 Act – which included the addition of the "permitted leasing" condition in section 70(1) of the 1982 Act (re-enacted in 1990 as section 42(1) CAA) – and in conjunction with section 70(5) of the 1982 Act as amended by paragraph 5(5) of schedule 16 to the 1986 Act (re-enacted as section 42(4) CAA). Section 42(4) CAA is in these terms:
"42(4) Where a balancing allowance or a writing-down allowance has been made in respect of expenditure incurred in providing machinery or plant and, at any time in the requisite period, an event occurs such that, by virtue of subsection (3) above, there is no right to that allowance, an amount equal to any such allowance which has previously been given (less any excess reliefs previously recovered by the operation of section 46) shall, in relation to the person to whom the machinery or plant belongs immediately before the occurrence of that event, be treated as if it were a balancing charge to be made on him for the chargeable period in which the machinery or plant is used at the time that event occurs. "
[50]When these provisions are read together, the position is clear enough. Paragraph 8 of schedule 16 to the 1986 Act (re-enacted in section 46 CAA) provided for recovery of excess relief where, subsequently during the requisite period, the right to normal (25%) writing-down allowances was lost by virtue of section 70(1) of the 1982 Act as amended by paragraph 5(1) of the 1986 Act (re-enacted as section 42(1) CAA) – that is to say, where the right to normal allowances was lost because the machinery or plant was, subsequently during the requisite period, leased to a non-resident otherwise than by permitted leasing. Section 70(5) of the 1982 Act as amended by paragraph 5(5) of schedule 16 to the 1986 Act (re-enacted as section 42(4) CAA) provided, additionally, for recovery of excess relief where the right to a reduced (10%) allowance was lost, subsequently during the requisite period, by virtue of section 70(4) of the 1982 Act (re-enacted as section 42(3) CAA) – that is to say, where the right to reduced allowances had been lost because, during the requisite period, the machinery or plant had ceased to be used for a qualifying purpose. Far from supporting the case advanced by BMBF 24 under this head, a proper analysis of the provisions shows that the Revenue’s contention is correct. The legislature did intend the second cumulative condition in section 42(3) CAA to have a role which was independent and distinct from the permitted leasing condition in section 42(1).[51]It is submitted on behalf of BMBF 24 that, nevertheless, there can be no case in which machinery leased under a finance lease could be used for a qualifying purpose within section 39(2) CAA. The point is put at paragraph 108 of the skeleton argument prepared on its behalf:
"The only "buyer" in a s.42 situation is the finance lessor (here No.24) and the only use that could be qualifying would be use by him – any use by a lessee or sublessee from him could not qualify since ex hypothesi such a person is not a "buyer"
. This serves to exclude section 39(2) . . ." The flaw in that submission, as it seems to me, is that it fails to identify correctly the cases which do fall within section 39(2). The section is in these terms, so far as material:
"39(2) The machinery or plant is leased to a lessee who uses it for the purposes of a trade, otherwise than for leasing, and either – (a) the buyer’s expenditure was old expenditure and . . . a first-year allowance could have been made to the lessee if he had bought the machinery or plant at that time and had incurred capital expenditure in doing so, or (b) the buyer’s expenditure was new expenditure and, had the lessee bought the machinery or plant at that time and had incurred new expenditure in doing so, that expenditure would have fallen to be included, in whole or in part, in the lessee’s qualifying expenditure for any chargeable period for the purposes of section 24(2) to (5)."
Section 39(2)(a) CAA is derived directly from section 64(2)(a) of the 1980 Act as originally enacted. Section 39(2)(b) is derived from that section as amended by paragraph 1(2) of schedule 16 to the 1986 Act. The requirement underlying both paragraphs of section 39(2) CAA is that the machinery or plant is leased to a lessee who uses it for a trade, otherwise than for leasing. The hypothesis underlying those two paragraphs is that, had the lessee bought the machinery or plant himself (instead of leasing it), the lessee could have claimed a first-year allowance, or treated the expenditure as qualifying expenditure.[52]It might, perhaps, be said that between 1986 and 1993, the second cumulative condition could not have been applicable in a single lease case. In a single lease case, neither section 70 of the 1982 Act, nor section 42 CAA 1990 as originally enacted, were engaged unless the lessee under the lease from the owner was not resident in the United Kingdom and did not use the machinery or plant for the purposes of a trade carried on there or for earning profits chargeable to tax; and, in such a case, the lessee would never, himself, have been in a position to claim a first-year allowance. But, whether or not there would have been force in that point if raised between 1986 and 1993, its force was lost when section 42(1)(b) CAA in its present form was substituted by section 116(2) of the Finance Act 1993. In respect of leases entered into on or after 16 March 1993 (which is the instant case) section 42 CAA is engaged where the lessee does not use the machinery or plant exclusively for earning profits chargeable to United Kingdom tax. It is possible, therefore, to envisage circumstances in which, in a single lease case, the lessee from the owner might be a person who, if he had purchased the machinery or plant himself, would have been in a position to claim a first-year allowance or to treat his expenditure as qualifying expenditure.[53]The position, therefore, is that where machinery or plant acquired by the owner for leasing is leased by the owner to a non-resident who does not use that machinery or plant exclusively for earning profits chargeable to United Kingdom tax (a single lease case) writing down allowances at the 25% rate are withdrawn unless the leasing is permitted leasing – that is to say, short-term leasing or the leasing of a ship, aircraft or transport container which is used for a qualifying purpose by virtue of section 39(6) to (9) CAA (see section 42(1) and the definition of "permitted leasing" in section 50(3) CAA). Where, in such a case, the machinery or plant is leased to a lessee who uses it for the purposes of a trade, otherwise than for leasing, in circumstances in which, if he had bought the machinery or plant himself (instead of leasing it) he could have claimed a first-year allowance or treated his expenditure as qualifying expenditure then, whether or not the lease is a finance lease, the owner can claim writing-down allowances at the 10% rate (see section 42(2) read with sections 42(3) and 39(2) CAA). So, also, where the lease is not a finance lease – that is to say, is not a lease in respect of which one or more of paragraphs (a) to (e) of section 42(3) are satisfied. In a single lease case it is only where the lease is a finance lease and the machinery or plant is not used for a qualifying purpose within section 39(2) CAA that writing-down allowances are withdrawn altogether.[54]It remains necessary to consider how effect is given to the second cumulative condition in section 42(3) CAA in a multi-lease case. The question in such a case is whether the use, in the context of the expression "used otherwise than for a qualifying purpose", is use by the lessee under the lease from the owner (the headlease) or use by the non-resident - that is to say, use by the person within paragraphs (a) and (b) of section 42(1) to whom the machinery and plant has been leased under a sublease. The answer, I think, is reasonably clear. The relevant use is use by the non-resident lessee under the sub-lease. In such a case it is the non-resident lessee who is "the lessee" for the purposes of section 39(2) CAA.[55]To hold that, in a multi-lease case, the relevant use, in the context of the expression "used otherwise than for a qualifying purpose", is use by the lessee under the lease from the owner (the headlease) would be inconsistent with the view which I have expressed earlier in this judgment as to the relevant lease for the purposes of the "permitted leasing" condition in section 42(1) CAA. The reasoning which led me to that view in that context requires me to ask, in the present context, whether, if the use by the non-resident is use for a "qualifying purpose", Parliament intended that section 42(3) CAA should operate so as to deny the 10% writing down allowances to which the owner would otherwise be entitled under section 42(2) CAA. I cannot see why that question should receive an affirmative answer. As I have said, writing-down allowances at the 10% rate are available to the owner in a case where there is a lease by the owner to a non-resident lessee if the non-resident lessee can bring himself within section 39(2) CAA – that is to say, if he is using the machinery or plant for the purposes of a trade, otherwise than for leasing, in circumstances in which, if he had bought the machinery or plant himself (instead of leasing it) he could have claimed a first-year allowance or treated his expenditure as qualifying expenditure. That is the position whether or not the lease by the owner to the non-resident is a finance lease. Why (in the absence of clear words) should Parliament be taken to have intended that section 42(3) would apply to deny the 10% writing down allowances available to the owner who has granted a lease to a UK resident (whether or not a finance lease) where the use by the non-resident under the onward lease is use for a qualifying purpose within section 39(2) – that is to say, where the use by the non-resident under the onward lease is use which, if the non-resident held under a lease from the owner, would not have given rise to a denial of 10% writing-down allowances under section 42 CAA. The better view is that Parliament did not intend that section 42(3) CAA should deny the owner 10% writing-down allowances in such a case. (iii) the third cumulative condition; a finance lease[56]With that lengthy, but I think necessary, analysis of the concepts of ‘permitted leasing’ (in section 42(1) CAA) and ‘qualifying purpose’ (in section 42(3)), I can now return to the question at the heart of this appeal: in a multi-lease case, which is the relevant lease for the purposes of the third cumulative condition in section 42(3) - that is to say, the condition that one or more of the features described in paragraphs (a) to (e) are present in, or in respect of, "the lease"?[57]The judge addressed that question at paragraphs 54 to 104 of his judgment. He first identified what he thought to be the statutory purpose of section 42 CAA. At paragraph 61 he set out what was common ground:
"[Counsel] are agreed that the purpose of s.42 of the 1990 Act is to curtail the commercial and tax advantages conferred by the 25 per cent. rate of WDA where the plant or machinery is leased to a non-resident. They are both agreed that this curtailment was intended to be achieved by the matching of WDA claimed by the finance lessor and the rents paid in respect of the machinery or plant chargeable to UK tax. Thus, by reducing the WDA from 25 per cent. to 10 per cent. (being the rate specified in section 42(2)), it was intended to bring the rate of WDA more into line with commercial rates of depreciation."
[58]The judge then set out the rival contentions as to the way in which Parliament had sought to achieve that purpose. The Revenue’s contention, which the judge accepted, appears at paragraph 62 of his judgment:
". . . the objective of netting off WDA and rents, so as to achieve neutrality, can only be achieved if that process is carried out between the finance lessor and the finance lessee. If the netting off is between the finance lessor and someone lower down the chain than the finance lessee, it would be purely fortuitous if neutrality was achieved. An obvious example would be if the sublessor, even though a UK resident, does not pay tax on the rents received by it under the sublease because of available losses. In short [counsel] submitted that pursuit of a matched position under s.42 in the hands of a single tax payer makes sense; whereas pursuit of a matched position in the hands of two distinct tax payers, the finance lessor, whose WDA are adjusted, and a sublessor anywhere down the chain who happens to receive rentals from a non-resident, does not. Accordingly, this suggests that the lease which is the subject of s.42(3)(a) to (e) is the finance lease in every case, whether or not the non-resident is the headlessee."
The contentions advanced on behalf of BMBF 24 were summarised at paragraphs 10, 13 and 14 of the skeleton argument prepared for its use below. The judge set them out at paragraph 63 of his judgment. But he rejected those contentions in paragraphs 64 and 65, observing that "the explanation as to why the finance lease structure in the present case is not within the mischief of s.42 does not withstand close scrutiny". He rejected, also, submissions based by both parties on the supposed anomalies which were said to arise from the contentions of the other; observing, at paragraph 67, that:
"Anomalies could theoretically occur on the approach of each of the parties. Furthermore, and importantly, the hypothesis of matters occurring down the chain without the consent or knowledge of the finance lessor is, in my judgment, unrealistic. As would be expected, the Headlease in the present case contains provisions (see clauses 17.1 and 23.2) which give the finance lessor complete control over the grant of subleases and dealings by the headlessee with its interests under the Headlease or any of the other related documents to which the headlessee was a party and which form part of the framework of the scheme. I was told that the provisions of the Headlease are standard finance lease terms."
[59]At paragraph 68 of his judgment the judge set out part of a statement (reported in Hansard for 28 June 1982) in which the minister (Mr Ridley) had explained the thinking which had led the government to propose what was to become section 70 of the Finance Act 1982 - providing for the reduction of capital allowances from 25% to 10% where the machinery or plant was used for the purpose of being leased to a non-resident - and the perceived potential for unacceptable exploitation of the proposals which the government intended to address. The judge found no assistance in that statement on the question which was the relevant lease for the purposes of paragraphs (a) to (e) in section 42(3). As he said, at paragraph 70 of his judgment:
". . . As is apparent from Mr Ridley’s speech itself, what is now s.42(3) had not been drafted at that stage. The Government’s thoughts were at a very early stage, and there is no clear indication by Mr Ridley as to the solution which it was contemplated the Government would adopt to meet the problem that he identified."
[60]At paragraph 71 of his judgment,

the judge explained the basis upon which he was to approach the textual analysis of section 42 CAA:

"For these reasons, I approach the detailed examination of the language of s.42 and, in particular, s.42(3), without No.24 having made out its case that the mischief to which s.42(3) is directed is the mischief described in paragraphs 10, 13 and 14 of [counsel’s] written argument, to which I have referred above. On the other hand, I am left with the logic of [the Revenue’s] submission, which also impressed the Special Commissioners, that since it is the finance lessor’s WDA which are at risk under s.42, it is the headlease which is relevant, if what is sought to be achieved is a matching of rentals and WDA so as to achieve neutrality. It is necessary, however, to test that general consideration against a detailed analysis of the actual language used in s.42."
[61]After submitting section 42 CAA to textual analysis, the judge expressed his conclusion at paragraph 103 of his judgment: "For all these reasons, I conclude that [the Revenue’s] depiction of the statutory purpose behind s.42, and s.42(3) in particular, is to be preferred to that of [BMBF 24]; the four references to "leasing" in s.42(1) are to the lease by the owner of the machinery or plant, and so, in the case of a chain of leases, to the headlease; the words "is used otherwise than for a qualifying purpose" in s.42(3) are not referring back to the words "used for the purpose of being leased" to a non-resident in s.42(1), but rather they provide an exception to s.42(3) which goes beyond the exceptions at the end of s.42(1). Giving the opening words in s.42(3) their natural meaning, and having regard to the proper interpretation of s.42(1), and to the statutory purpose, I conclude that "the lease" referred to in s.42(3)(a) to (e) is the lease by the owner of the machinery or plant, and so, in the case of a chain of leases, the headlease. As appears from that paragraph, the judge founded his conclusion on three factors:(i) what he thought to be the statutory purpose behind section 42 CAA;(ii) his understanding of the ‘permitted leasing’ condition in section 42(1); and(iii) his view that Parliament intended the second cumulative condition in section 42(3) to have a role which was independent and distinct from the permitted leasing condition in section 42(1).[62]I have explained why I think the judge was wrong to take the view which he did as to the scope of the permitted leasing condition in section 42(1) CAA; and why I agree with his view as to the independent role of the second cumulative condition in section 42(3). It will be clear, also, from an earlier section of this judgment that I agree with the judge’s identification of the statutory purpose underlying the treatment of writing-down allowances in cases where the machinery or plant has been leased to a non-resident who does not use it exclusively for earning profits taxable in the United Kingdom. In such cases Parliament intended there to be no fiscal incentive to an owner. The treatment of cases within section 42(2) is fiscally neutral – in the broad sense that rentals are matched by 10% allowances. But cases within section 42(3) are those which the legislature intends to discourage by fiscal disincentive.[63]Although I differ from the judge as to the scope of the permitted leasing condition in section 42(1) CAA, I have no doubt that he was correct to hold that the relevant lease, for the purposes of the third cumulative condition in section 42(3), is the lease from the owner (the headlease). The reasoning which leads me to that conclusion may be summarised as follows:(1) Writing-down allowances at the ‘normal’ (25%) rate are allowed to a person carrying on a trade who has incurred capital expenditure on the provision of machinery or plant wholly and exclusively for the purposes of the trade where, in consequence of his incurring that expenditure, the machinery or plant belongs or has belonged to him – section 24 CAA. Such a person may be described as ‘the owner’. Prima facie, an owner who incurs expenditure on the provision of machinery or plant for leasing (whether or not he would otherwise be carrying on a trade of leasing machinery or plant) will be entitled to normal writing-down allowances in respect of that expenditure – sections 24, 41 and 61 CAA.(2) Normal writing-down allowances at the 25% rate are intended to provide a fiscal incentive to encourage an owner to incur expenditure in the provision of machinery or plant for leasing. They are likely to enable the owner to write off his capital outlay well within the anticipated useful economic life of the asset. Section 42 CAA was introduced (as section 70 of the 1982 Act) in order to remove that fiscal incentive in cases where the machinery or plant was used, at any time during the requisite period (ten years), for the purpose of being leased (whether by the owner or by a sub-lessor) to a non-resident (within the meaning of sections 42(1)(a) and (b) and 50(3) CAA). The reason is, I think, obvious. There was no justification for a fiscal incentive to encourage an owner to incur expenditure in the provision of machinery or plant for leasing if that machinery or plant was not to be used to earn profits chargeable to tax in the United Kingdom.(3) The reach of section 42 CAA was limited by the ‘permitted leasing’ condition in section 42(1). When the provision was first introduced (in 1982) Parliament recognised the need to continue to provide a fiscal incentive in respect of expenditure incurred on the provision of machinery or plant used for short-term leasing to non-residents; and, in 1986, extended that exemption to the leasing of ships, aircraft or containers in circumstances where assets of that nature had, historically, continued to attract first-year allowances following the 1980 Act. But the fact that the reach of section 42 CAA was limited by the permitted leasing condition did not affect the principle that, in cases which fell outside that condition, there was no justification for a fiscal incentive to encourage an owner to incur expenditure in the provision of machinery or plant for leasing if that machinery or plant was not to be used to earn profits chargeable to tax in the United Kingdom. And it is, I think, pertinent to keep in mind the restriction on the permitted leasing condition introduced by section 71(2) of the 1982 Act (read as amended by paragraph 1(3) of schedule 16 to the 1986 Act), and now found in section 39(8) CAA. It does not apply (at least in respect of ships and aircraft) if one of the main objects of the letting on charter was to obtain writing-down allowances at a rate in excess of the 10% allowed by section 42(2) CAA.(4) In a case in which there was no finance lease involved – whether granted by the owner or, in a multi-lease case, by a subsequent sub-lessor in the chain – the effect of section 42 CAA (in those cases to which the section applied) was to reduce the rate of writing-down allowances to 10%. That was intended to achieve fiscal neutrality, by enabling the owner to write off his expenditure over a period of 14 to 15 years; during which he could be expected to be in receipt of a matching rental stream which (subject to allowances) would be taxable in his hands.(5) The principle of broad fiscal neutrality, to which section 42(2) CAA was intended to give effect, was undermined in a case where the lease granted by the owner was a finance lease – that is to say, a lease having the characteristics identified in paragraphs (a) to (e) of section 42(3) CAA. The principle was undermined because the rental stream under a lease having those characteristics would not, or might not, give rise to income taxable in the hands of the owner which would match writing-down allowances at the 10% rate. That, as it seems to me, is the mischief which section 42(3) CAA (and its statutory predecessor, section 70(4) of the 1982 Act) was intended to meet. Parliament’s intention was to withdraw writing-down allowances altogether in such cases, subject to the exemption provided by the second cumulative condition.(6) To withdraw writing-down allowances altogether in a multi-lease case where the lease granted by the owner is not a finance lease, on the basis that a lease granted by a subsequent sub-lessor in the chain is a finance lease, would be an irrational response. If the lease granted by the owner is not a finance lease the principle of broad fiscal neutrality is unaffected. The owner is able to write-off his expenditure over a period during which he can be expected to be in receipt of a matching rental stream under the lease which he has granted. His position is unaffected by the fact – however unlikely in practice – that there is a finance lease further down the chain. And the sub-lessor who has granted that lease is unaffected by section 42 CAA, because, in respect of the leased assets, he is not an owner to whom writing-down allowances could be made.(7) The withdrawal of writing-down allowances altogether is a fiscal disincentive, calculated to discourage the owner from incurring expenditure in the provision of machinery or plant for leasing to a non-resident on the terms of a finance lease; or for leasing on the terms of a finance lease to a lessee who is not a non-resident if, at any time during the requisite period, the plant or machinery may be used for the purpose of being leased (by that, or a subsequent, lessee) to a non-resident. But, in a single lease case, that discouragement is removed if the machinery or plant is to be used by the non-resident lessee for a qualifying purpose within section 39(2) CAA – that is to say if he is to use the machinery or plant for the purposes of a trade, otherwise than for leasing, in circumstances in which, if he had bought the machinery or plant himself (instead of leasing it) he could have claimed a first-year allowance or treated his expenditure as qualifying expenditure. And, in a multi-lease case, the owner can protect his allowances by appropriate restrictions in the finance lease which preclude sub-letting to a non-resident save on terms which would fall within the permitted leasing exemption in section 42(1) or which engage the qualifying purpose exemption in section 42(3) CAA. Conclusion[64]I would dismiss this appeal on the grounds that BMBF 24 fails on issue (2). In those circumstances issues (4) and (5) do not arise.

Lord Justice Rix:

[65]I agree.

Lord Justice Simon Brown :

[66]I also agree.

Cited in 1 later judgment