“I refer to the matter of arranging events so that Mediability Ltd will be able to supply advertising services to a company which is incorporated in Guernsey on a VAT free basis. I have been progressing the issue with Rupert Webb at Wilmslow Financial Services Ltd and we are considerably closer to implementing the necessary arrangements which are required to effect the desired end result… As matters progress with regard to the incorporation of a Guernsey company, I will keep you fully informed…” 53. Thereafter Karakus was created on19 March 1997 . The First Agreement between Karakus and the Appellant is dated1 May 1997 and describes the parties as follows: “The Company [Karakus] carries on the business of providing financial intermediary. The Credit Broker [the Appellant] carries on the business of credit broking and has the necessary expertise, credit licenses, staff and facilities for the processing of applications for loans and for the giving of financial advice.” 54. Under the terms of the First Agreement the Appellant agreed to provide the following “Credit Broking and Data Processing” services to Karakus (at Clause 2 of the First Agreement): “(a) to deal with all initial enquiries from Applicants For Loans in response to Advertisements placed by the Company offering loans; (b) to give financial Advice to Applicants for Loans; (c) to make enquiries of the Applicants for Loans to ascertain if they have sufficient equity in their property; (d) in prima facie satisfactory cases to forward to the Applicants for Loans the appropriate loan application forms; (e) to receive completed loan application forms from the Applicants for Loans; (f) to vet the completed loan application forms for completeness and accuracy; (g) to undertake credit references; (h) to value the assets in respect of secured loans; (i) where any Applicant for a Loan has passed all the credit check controls, to forward copies of the completed and successfully vetted loan application forms to the Company with recommendations as to possible Lenders and ancillary terms; (j) items (a) to (i) inclusive being sometimes hereinafter referred to as the “Specified Services” . 55. At Clause 3 of the First Agreement Karakus “agrees to pass all the successfully completed application forms received from the Credit Broker to the Lenders in consideration of a commission in respect of all successful Loan Applications.” 56. The Appellant invoiced for its services at the rate of£60 per successfully processed secured loan application. At Clause 5 the First Agreement stated: “The Company shall procure Advertising Services at its sole discretion and promote the availability of Loans from the Lenders in such newspapers, magazines, radio, television, directories, pamphlets and other media as it considers appropriate to attract Applicants for Loans” and at clause 8 Karakus: “hereby covenants not to undertake any form of Credit Broking which activity shall be solely the responsibility of the Credit Broker” and agreed not to give any financial advice “to any Applicants or prospective Applicants for Loans which activity shall be solely the responsibility of the Credit Broker and further to refer any requests for such advice to the Credit Broker”. 57. Clause 15 deals with the duration and termination of the First Agreement. Termination was conditional on the following: · “If the other party has committed any breach of any of its obligations under this Agreement and (in the case of a breach which is capable of remedy) has failed to remedy the same within 30 days after receipt of written notice specifying the nature of the breach and requiring it to be remedied; or · If the other party is the subject of insolvency proceedings (save for the purpose of amalgamation or reconstruction); · If an encumbrance takes possession, or a receiver is appointed, of any property or assets of the other party; · If the other party ceases to carry on business.” 58. The letter from Arthur Andersen explicitly states the purpose of the arrangements was to enable the Appellant to receive VAT free advertising from Mediability. The letter indicates that it is driven by Arthur Andersen and the Appellant for the sole purpose of receiving VAT free advertising from Mediability via the use of an offshore company. 59. It is clear from the First Agreement that the Appellant held the necessary expertise to carry out the processing of loans. HMRC noted there is no provision for payment by Karakus for goodwill. On the material before me there was no evidence to conclude that there was a transfer for which goodwill would be expected nor what the value of any goodwill would have been at the relevant time. However, it is clear that Karakus received the benefit of the Appellant’s experience, resources and contacts, on the face of it, for no payment. However, more notably, Karakus appears to have no control or veto in respect of the applications; the Appellant is the business with the necessary knowledge, experience and infrastructure but given that Karakus is the purported principal, there are no explicit provisions by which it has the power to make the ultimate decision or even to be involved in the business of loan broking; on the face of it, it’s role is limited to forwarding applications that have already been checked and approved by the Appellant to the lenders. I agreed with the submissions on behalf of HMRC that this feature implies that the use of Karakus was artificial and which is the reason, therefore, for the limited value added by it in the business of loan broking. 60. In support of its case the Appellant relied on Ocean Finance[2010] UKFTT 183 (TC) at 28, 50 and 52 in which the FTT held: “We further find that, whilst Alabaster did not itself have the infrastructure in Jersey to conduct a loan broking business, it equipped itself to conduct such a business by outsourcing the processing operation to the Appellant. Given this, we do not consider that the fact that there were only limited resources in Jersey itself has any impact on the carrying on by Alabaster of the loan broking business. Whilst we accept that certain information known to the Appellant in respect of Alabaster’s business, such as its profitability, and income and costs, might not be known to an arm’s length sub-contractor, it would be known to a 100% shareholder, and there is nothing in this fact that suggests that the contractual relationship between the Appellant and Alabaster was anything other than contractor and sub-contractor. He said that the operations we have described of signing off forms such as OAFs were not normal commercial practice. We accept that, if compared with an arrangement that might have been entered into between independent parties operating at arm’s length, the arrangements lack certain commercial features. It is true, and the Appellant accepted, that the loan broking business could have been carried out in the UK, and the loan broking business could have been pursued with an integrated, rather than sub-contracted, processing service. Nevertheless, we find that Alabaster carried on a commercial business. It was itself a commercial enterprise, carrying on economic activities of loan broking for which it equipped itself to a limited extent with its own staff and directors, and to a large extent through engaging the services of the Appellant under the Services Agreement. This was no brass plate company. Nor do we consider that it is in any way material to the question of commerciality that advice on the decision-making processes in Alabaster had been given by Moore Stephens. It is common ground that the Appellant’s operation in the UK was a substantial one. We were referred to the salaries of senior staff and underwriters in the UK, which were substantial when contrasted with those of the Alabaster directors and Lucy Woodworth. However, this merely emphasises the extent of the processing operation that Alabaster had contracted to equip itself to conduct its loan broking business. We do not infer from this that it must have been the Appellant that was carrying on the loan broking business. We are satisfied that the loan broking business was carried on by Alabaster, with the services of the Appellant provided through the Services Agreement. We consider that on the facts of this case it was Alabaster that had a business relationship with the lenders. Just as if it had done so through its own staff in Jersey, Alabaster carried on that business relationship, having equipped itself to do so through the Services Agreement with the Appellant. The mere fact that functions are performed through an outsourcing arrangement does not mean that the principal who has sub-contracted those functions out to another party should be regarded as not having the business relationship with its own contractual counterparties.” 61. I am not bound by the Decision of the FTT and I consider that the Decision must also be read in the context of its subsequent appeals and the observations set out by the UT, CJEU and Court of Appeal. Whilst I accepted the Appellant’s submission that Karakus held the contracts with the lenders, this feature in isolation does not, in my view, equate to Karakus adding value. The FTT’s decision in Ocean Finance did not consider this feature in isolation and its Decision relied heavily on its finding that the activities of the parties reflected the terms of the Services Agreement. As will become apparent, I found that the factual situation in this case was different. 62. In my view, there was no reason why the Appellant could not have held those contracts. Taken together with the limited value added by Karakus, I found that these features supported HMRC’s case that the use of Karakus was an artificial insertion for the purpose of achieving the “desired end result” referred to in the letter from Arthur Andersen above, namely enabling the Appellant to receive VAT free advertising through the use of an offshore entity. 63. It was clearly open to Karakus to equip itself to conduct the business by outsourcing the processing to Appellant (see Clause 8) but in my view, this does not, of itself, indicate, as the Appellant submitted, control by Karakus over the applications without further consideration of the evidence as a whole. It must be noted that under Clause 8 the processing of the loans is specifically reserved to the Appellant which meant that Karakus could not, without breaching the agreement, carry out any such role. Furthermore, under the terms of the Agreement Karakus could not carry out any loan broking on its own account. However, the Appellant was under no such contractual obligation which left open the possibility of it acting in competition with Karakus. The absence of any contractual terms preventing it competing or dividing the way loans would be processed between the companies indicated that this was not an arm’s length agreement between parties seeking to protect their own interests. 64. The Appellant accepted that the First Agreement contained no key performance indicators. I did not accept the Appellant’s argument that it should be an implied term that the services the Appellant agreed to perform at Clause 2 (a) - (j) would be carried out to a competent standard and within a reasonable time frame. In my view, the absence of key performance indicators or terms relating the performance of the services was an uncommercial feature of the agreement which reflected the fact that it was not an arm’s length contract between independent companies. 65. Although under Clause 5 Karakus had responsibility for procuring advertising, this was not the reality of the situation as it was in fact the Appellant who procured advertising, which was not disputed on behalf of the Appellant and which I found as fact. The First Agreement also indicates that Karakus would negotiate in relation to advertising however it was again accepted that this was not the case. In my view, these features, taken together with the fact that the Appellant received no payment for these services which it performed without being contractually bound to do so indicates that the First Agreement did not reflect the commercial reality between the parties and was driven by the Appellant to achieve the aim of the scheme. 66. I noted the Appellant’s submission that the First Agreement was professionally drawn up, however it remains unknown upon whose instructions and I did not find that this assisted in relation to the issues to be determined. 67. I rejected the Appellant’s submission that the Appellant must have been satisfied with the payment terms set out at Clause 4.2; there was no evidence to support such speculation and I did not consider that any such inference could reasonably be drawn when considering the overall picture as to do so ignores the HMRC’s argument that if the arrangements were put into place for the sole purpose of mitigating tax for the benefit of the Appellant, the agreement in respect of payment terms was motivated by that purpose and achieving the end result intended by the arrangements. 68. My conclusion in relation to the First Agreement is that it lacked commercial terms which would be expected in a contract between independent companies and contained uncommercial features. Moreover, in evaluating all of the circumstances it was clear that the terms of the First Agreement did not reflect the commercial reality of the situation for example in relation to the procuring and negotiating of advertising. 69. As the authorities make clear, contractual terms are not decisive of the issues to be determined and I therefore went on to consider the documentary evidence available. In a letter dated1 May 1997 from Mediability to Mr and Mrs Webb T/A Fairdene Financial Services a request was made that the fees paid by Karakus to Mediability be cross-guaranteed: “Before we can commence the necessary work we would be obliged if you could return the duplicate of this letter, signed by you, to indicate your agreement to act as guarantor of Karakus Ltd in respect of the payments due under the Contract. In consideration of us providing the services referred to above and, in the event that Karakus Ltd…fails to make payments due under the Contract in accordance with the Contract, Fairdene Financial Services hereby irrevocably and unconditionally guarantees to pay to Mediability Ltd any amounts up to a maximum aggregate sum of£150,000 which are payable by Karakus Ltd to Mediability Ltd. An amount equal to any amount unpaid, subject to the above limitation, shall be paid by Fairdene Financial Services to Mediability Ltd (without set-off or other deduction) upon receipt by Fairdene Financial Services of a letter which details any amounts outstanding from Karakus Ltd and which is accompanied by copies of invoices issued by Mediability Ltd to Karakus Ltd. The amount detailed as payable shall be conclusive unless manifestly incorrect. In addition Fairdene Financial Services is principal obligor and as a separate and independent obligation irrevocably and unconditionally agrees to indemnify Mediability Ltd in full on demand against all losses, costs and expenses suffered or incurred by Mediability Ltd arising from or in connection with the failure by Karakus Ltd fully and promptly to make the payments in accordance with the Contract. The parties acknowledge that a separate guarantee has been entered into between Mediability Ltd and Wilmslow Financial Services Ltd (“the first guarantee”). For the avoidance of doubt it is hereby acknowledged that Mediability may only recover once in respect of consequential loss suffered by it; such claim being made either against Fairdene Financial Services pursuant to this guarantee or against Wilmslow Financial Services Ltd pursuant to the first guarantee…” 70. The “first guarantee” was set out in largely similar terms in a letter of the same date to Wilmslow Financial Services Ltd. 71. I agreed with the submissions of HMRC who questioned why such a guarantee was entered into which would include a potential liability to VAT in the event of a challenge by HMRC to the arrangements. In my view the guarantee is evidence of the fact that Karakus was not an independent entity as it has a clear financial link to the Appellant. There is no obvious commercial advantage to the Appellant in guaranteeing the fees and I consider it a reasonable inference to draw that its reason for accepting the potential liability is the advantage of the overall arrangements to the Appellant and indicates that its role was more than that of a processor to which work was outsourced. I did not accept the Appellant’s submission that the guarantee gives no indication about the relationship between the Appellant and Karakus; to the contrary, it seems to me that it clearly shows the link between the companies and that the arrangements were driven by the Appellant for the Appellant’s ultimate benefit. 72. An internal memorandum from the lender The First National Bank (from Mr Howell to CJ Weeks) dated15 May 1997 with the subject “Karakus Ltd” set out: “With effect from 1 st June 1997 a new operating company based in Gibraltar under the name of Karakus Ltd will be formed. This company will replace Wilmslow Financial Services Ltd. who will simply provide marketing, data processing and support services to Karakus Ltd and Fairdene Financial Services (a partnership), will cease to trade with effect from 31 st May 1997… You will be aware that we have a marketing loan agreement in place in the name of Wilmslow Financial Services Ltd. and Fairdene Financial Services, which will need to be amended with effect from 1 st June 1997. This may be complicated by the fact that there are nominee directors appointed to Karakus Ltd. who will need to sign the agreement which will also need to include Wilmslow Financial Services Ltd. and the guarantees of Mr. & Mrs. Webb….” 73. I noted the Appellant’s observation that this document pre-dated HMRC’s challenge to the scheme and that the position with regard to Karakus’ directors changed over the years. However, it is relevant in my view as part of the background to the arrangements as they were put into place and the document shows that the FNB was notified as to the arrangements being set up and the potential “complications”
“would like all commission cheques for Wilmslow and Low Cost Loans to be paid to Karakus Limited as from Monday 2 nd June 1997.” 75. The document shows clear evidence of Mr Webb’s personal link to and financial control of Karakus. The email shows that Mr Webb had the authority to direct the money flow required to achieve the purpose of the arrangements. The Appellant sought to argue that the email simply reflects the fact that with effect from2 June 1997 the FBB contract was with Karakus and not the Appellant. I disagree; the email shows a clear relationship from the lender’s perspective between the Appellant and Karakus such that the lender accepted Mr Webb’s authority to direct the payment of commission cheques for the Appellant to Karakus. 76. On30 June 1997 Karakus and Mediability entered into contractual terms under which Karakus was obliged to indemnify Mediability (at Schedule 5): “…in the event that HM Customs and Excise seeks retrospective payment of VAT from Mediability in relation to the Services…” 77. “Services” was defined under Clause 2 as “ the provision of advertising services as may be agreed by the parties from time to time”
“By a deed of agreement dated 1 st December 1996 made between FNB and the Joint Borrowers…as varied by a further deed of agreement dated 21 st May 1997…FNB granted the Joint Borrowers renewal of an advance commission loan facility of£100,000 which was thereafter paid to or to the use of the Joint Borrowers to be repaid by deduction from commissions earned by the Joint Borrowers and which would otherwise have been payable to them. … The Company wishes to enter into arrangements with FNB (and so far as is necessary the Joint Borrowers) for:- (i) Approval as an introducer of instalment credit business to FNB, (ii) An advance commission loan facility of£100,000 , (iii) Provision of Running - Rate Commission NOW IT IS AGREED AS FOLLOWS: - FNB hereby approves the Company as an introducer of instalment credit business and extends to the Company an advance commission loan facility (“the Facility”) for the purpose of refinancing the Joint Borrowers’ current indebtedness to FNB under the 1996 Agreement and the Variation Agreement on the following terms and conditions. … 9. In consideration of the foregoing the Joint Borrowers hereby waive any claim they might have for further commission from FNB and the Company acknowledges that the first£100,000 of override commission on paid out business is being paid in advance under the terms of this agreement and accordingly the Company and the Joint Borrowers hereby indemnify FNB absolutely against any claim of whatever nature and however arising in respect of commissions paid or repaid under this agreement or any other agreement between any of FNB, the Company and/or the Joint Borrowers and it is expressly agreed that this clause shall survive in full force and effect notwithstanding repayment of the facility and/or expiry of termination of this agreement. 10. FNB shall be entitled, but shall not be obliged, to demand immediate full repayment of the balance of the Facility in any of the following events: - (a) If the Company ceases to carry on the business of a licensed credit broker and/or fails to offer FNB first refusal of all instalment credit business under Clause 4 of this Agreement, such cessation or failure to be determined by FNB in its absolute discretion. (b) If the Company fails to comply with or in the opinion of FNB appears to be in breach of any of its obligations or warranties under this Agreement. (c) If the Company and/or the Joint Borrowers (or any of them) cease to hold appropriate license(s) under theConsumer Credit Act 1974 to enable them to introduce to FNB and/or process instalment credit business or to comply with any other statutory or regulatory operating requirements.” 80. Under the agreement the balance would be automatically and immediately repayable or set off in the event of Karakus or the Webbs committing certain specified defaults. The agreement records that both Karakus and the Joint Borrowers entered into the agreement with the benefit of independent professional advice and that the financial liabilities of both to FNB under the agreement were joint and several. 81. Under the agreement the Appellant received£100,000 and at clause 6 Karakus was added to the agreement. HMRC submitted that the inference to be drawn is that it was the Appellant who introduced Karakus to the lender FNB. The purpose of Karakus’ advance commission from FNB is stated as being: “ for the purpose of refinancing the Joint Borrowers’ current indebtedness to FNB under the 1996 Agreement and the Variation Agreement” and in consideration, the Appellant and Mr and Mrs Webb “waive any claim they might have for further commission from FNB”
“To assist [HMRC] with her understanding of the business, they had photocopied a flow chart which was part of their sale information, detailing how the business operated. For the period that [HMRC] was looking at up to31 March 1998 , the company Karakus had been active for 11 months of the year. Basically, the company now are data processors and a marketing company. They receives [sic] calls from an advert which may be on the TV, Yellow Pages, national newspaper advertising, etc. Karakus would place an advert, and then initial contact from a prospective customer was received. Loan application details were taken and if it was an unsecured loan, it would passed [sic] to a personal loan company and an independent principal. If it was a mortgage, then the lead would be passed to Direct Mortgages Ltd…The mortgage business was being dealt with in a completely separate company because the Mortgage Code and the Consumer Credit Act could not mix together.” 83. There was an issue between the parties as to who “the company” referred to; HMRC submitted that it appeared to refer to Karakus and showed confusion on the Appellant’s part as if it referred to the Appellant, HMRC noted there was no power in the contract for the Appellant to be a “marketing company” as the advertising was the role of Karakus; if it referred to Karakus, whilst “marketing” could possibly cover its role, it had never acted as a data processor. The Appellant contended that the only interpretation was that the reference referred to the Appellant and showed no confusion on the Appellant’s part. I accepted that the note was unclear, however on my reading the reference appears to refer to the Appellant and I agreed with HMRC’s submissions that it showed confusion that would not be expected of the Appellant as to its role and activities under the arrangement. 84. The record of the meeting also noted: “[HMRC] asked who is given responsibility in the company to place an advert. Mr Webb explained that Karakus had given him the power to place adverts as he felt necessary. [HMRC] asked who in Karakus had given him this power. Mr Webb initially seemed unsure but then said it was John Swann who was the director of Karakus Ltd who he had initially dealt with. He confirmed he had never met him but had spoken to him on the telephone. Mr Webb, upon [HMRC’s] questioning, confirmed that he had recently not spoken to John Swann, but previously when the company was first set up he may have spoken to him say 20 or 30 times. The position before Karakus was used, was the same, Mr Webb would decide on the advertising policy. Mr Webb said that the power to place the adverts was in the original agreement. [HMRC] then asked who negotiated the costs with whom. Rupert Webb initially said it was him but then explained that it wasn’t really possible to negotiate the cost of an advert, only whether or not you placed the advert. Rupert Webb explained that he dealt with Darren Grundy in the company of Mediability. Mediability would send them order spaces and bill Karakus directly, but send a schedule of adverts placed to Wilmslow Financial Services Ltd. This way, Mr Webb knows how much to write a cheque out for to Mediability. … Mr Webb explained that a copy of the application form was sent to Karakus and the original copy was sent direct to the bank, who would then authorise the loan directly. Mr Webb said that Karakus was a completely separate entity and nothing really to do with him. [HMRC] asked who was in Karakus and operating the company as Karakus, Mr Webb seemed unclear. … [HMRC] asked how Karakus received their monies. Now Karakus received the majority of its income by telegraphic transfer. Previously, cheques were received by Karakus. The cheques were sent to Wilmslow Financial Services Ltd and banked by Wilmslow Financial Services Ltd on behalf of Karakus Ltd…Mr Webb has drawing rights currently on the bank account however he is most concerned that the director Mr John Swann resigned yesterday and the accountant, BDO, do not want Mr Webb to have drawing right on the bank account. Under Gibraltar law, BDO say they must now take responsibility for the company which would mean that Rupert Webb would not have drawing rights on the bank account. Mr Webb said that if he didn’t have drawing rights on the bank account, he wouldn’t have entertained the use of the company Karakus Ltd. Now that they were about to take this off him, he was having to reconsider the position very carefully. … [HMRC] said that she understood that the trade was said to have ceased in May 1997 and a new trade was said to have started. [HMRC] asked how different it is now than before. Mr Webb explained that if you took Karakus out of the picture, the company’s trade was exactly the same as before. The only change is the way is that they deal through Karakus… [HMRC] asked how the difference in the trade was portrayed to Joe Public, how would she have known that the trade had ceased and a completely different trade re-started. Mr Webb explained that the customer would realise that the credit agreement said that the broker was no [sic] Karakus Ltd not Wilmslow Financial Services. Mr Webb explained that Karakus Ltd was set up to save VAT on advertising costs. [HMRC] asked whose idea it was, Mr Webb explained he had heard about it by a competitor who had been doing it for many years and he approached Arthur Anderson to put the deal into practice for him. [HMRC] said that she understood that Mr Webb was concerned that if he was to agree something with [HMRC] it may well be that binding agreement for VAT purposes as well. Mr Webb said he wasn’t worries about the VAT position, he was very confident that the scheme that he had been sold by Arthur Anderson was watertight and there were no problems arising as a result of it. [HMRC then asked what had happened to the£89,000 that was outstanding per the balance sheet when Karakus had took over. If, Wilmslow Financial Services were no longer dealing with any of the money lenders surely, they would have had to have paid the advance back for they were not going to earn any more commission. And since Karakus had absolutely nothing to do with the company, it wouldn’t have simply been transferred over to them. Neither [the accountant from Ford Campbell] nor Webb knew what had happened.” 85. I found that the extract above shows a further degree of uncertainty from Mr Webb as to how the Appellant’s arrangements with Karakus worked. Mr Webb was unsure as to who had given the Appellant power to place adverts. The limited contact with Mr Swann or any named contact at Karakus suggests that the Appellant carried out its activities without a clear understanding of the terms agreed in the First Agreement, in particular the incorrect belief that such a power was contained in the First Agreement. I inferred from this that the contractual terms did not reflect the commercial reality of the situation between the parties. My finding was reinforced by Mr Webb’s acceptance that: “ the position before Karakus was used, was the same, Mr Webb would decide on the advertising policy” and “if you took Karakus out of the picture, the company’s trade was exactly the same as before”
“on behalf of the Company…pass all original Loan Application forms to the Lenders” 88. The Second Agreement also added Clause 3A by amendment which provided that: “Notwithstanding the provisions of clause 3, the Company may exercise a veto in respect of any successfully completed application forms and instruct WFS not to pass any particular original Loan Application form to the Lender”. 89. The Second Agreement reflects the reality of the situation which had been taking place since the arrangements were put in place. As shown from the evidence set out above, and which was not challenged by the Appellant, the Appellant had been procuring the advertising services and I consider the fact that the Appellant carried out these services without payment lacked commerciality and supported the case for HMRC that it was, in reality, the Appellant that was supplying the loan broking services and receiving the advertising supplies in the course of its business. 90. I considered the Appellant’s submission that in the Second Agreement the Appellant contracted to procure advertising on Karakus’ behalf and that any contract can be amended by the agreed conduct of the parties from which it could be inferred that the Appellant procuring advertising prior to the amendment was also carried out on Karakus’ behalf. I rejected this submission for the following reasons; in my view the First Agreement was not arm’s length, contained uncommercial terms and did not reflect the economic or commercial reality of the arrangements. Moreover, there was no evidence upon which I could conclude that there had been any amendment by agreement. 91. The amendment also reflects the fact that Karakus played no part in the loan broking or the commercial reality of the arrangements as the Appellant processed the loans and forwarded them directly to the lenders. I rejected the Appellant’s submission that it could be inferred that Karakus would be given a reasonable time in which to exercise the veto by being sent copies in advance; in practical terms there is no evidence to demonstrate how Karakus could ever exercise the veto when applications were sent directly to the lenders. Furthermore, in the absence of evidence to indicate that Karakus had the necessary infrastructure or expertise to exercise any purported control, or any evidence to show that this ever occurred I concluded that the inclusion of a clause allowing the power to veto could have no effect in reality. There were no amendments to the terms of the First Agreement, such as termination, which were clearly uncommercial. I rejected the Appellant’s submission that the reduction in payment for successfully processed loan applications from£60 to£50 reflects an agreement between the parties as to the appropriate fee for all services provided. There was no evidence upon which to find that there had been any agreement or negotiation between the parties as to payment nor any evidence to support a finding that the Appellant must have considered the amount sufficient. In my view, the Appellant’s apparent willingness to take on additional contractual obligations for less payment was indicative of the lack of commerciality in the arrangements. In the absence of any evidence on the issue, I also did not agree that features such as key performance indicators, which were noticeably absent from the First Agreement and the subsequent amendment, could be inferred into the First or Second Agreement. 92. The documents showed that Karakus had a number of employees. There were also a number of documents showing applications which were refused in late 1999. However, whilst I accept that the employment of staff shows a level of commercial operations by Karakus, there was no evidence as to what the employees actually did. Furthermore, I note that not only is there no evidence that Karakus made any decision at a commercial level to reject applications sent by the Appellant but there is also no evidence that it had the necessary resources or infrastructure to do so, particularly in circumstances where the successfully processed applications were sent directly by the Appellant to the lender. Although it was noted by the Appellant that Mr Alan Kentish a director of Karakus had experience in insurance, including underwriting I was not satisfied that I could conclude, in the absence of any evidence, that he had specific experience of loan broking or that, if he did, he had taken any part in commercial decisions under the arrangements. I considered the documents which showed that in 1997 Mr Kentish joined BDO Fidecs and set up its insurance management division which conducts outsourced management, compliance and infrastructure functions for Gibraltar based insurance companies including underwriting support and financial reporting. The difficulty for the Appellant is that there is simply no evidence to indicate exactly what Mr Kentish or his team had the necessary expertise to do or what they actually did. 93. A letter from Mr Webb to Jordans (Gibraltar) Ltd dated6 December 1999 stated: “Following our recent visit to Gibraltar, I thought it would be useful for me to confirm in writing that you as nominees have full discretion to deal with the shares in Karakus Ltd. As you are aware, I have never sought to exercise any form of control or influence over the actions of the nominee in respect of the shares in Karakus Limited, nor do I have any intention to do so in the future.” 94. There was no witness evidence to provide any further detail about the contents of the letter, for instance the purpose of it or reason why Mr Webb felt it necessary to put the point in writing. The letter must also be viewed in the context of the evidence as a whole; the statement from Mr Webb that he never sought to exercise any form of control or influence over the nominee contradicts the control and direction demonstrated by, for example, his being the sole signatory until November 1999 who directed the money flow and the concern expressed at the meeting on5 October 1999 that if Mr Webb did not retain drawing rights on the Karakus’ bank account he would have to “reconsider the position very carefully.” 95. I considered the Appellant’s submission that Mr Webb was a businessman trying to make money and who, it appears, considered the remuneration from Karakus sufficient which provided no reason why Mr Webb would seek to control Karakus. However, as set out earlier, I was not satisfied, on the material before me, that I could conclude that the remuneration was accepted by the Appellant because Mr Webb believed it to be appropriate and sufficient; there is simply no evidence as to how the payments were negotiated or reasons as to why the Appellant accepted them. It must also be noted that if, as the evidence indicates, the arrangements were put in place solely for tax purposes and directed by the Appellant for its own advantage, a level of control by the Appellant would be required in order that it achieved “the desired end result” (letter3 March 1997 ). 96. On9 March 2000 a meeting took place between HMRC, Mr Webb (Managing Director), Mr Chadwick (Finance Director) and Mr Ruffles (Tax Advisor with Arthur Andersen). At the meeting it was explained that Mr Webb negotiated directly with Mediability when placing adverts, Karakus had a veto and Mediability did have some direct contact with Karakus. On first contact the borrower is asked where the advert was seen and the information was recorded by the Appellant and passed to Karakus who monitored the effectiveness of advertising. By way of background it was explained that: “K was an off the shelf company run by Jordans International Services who provided the directors (John Swann) and made a six months charge for their services. K is now said to be operated from the premises of BDO (accountants) in Gibraltar, the directors being Alan Kentish and Tim Revill who both live in Gibraltar and are both partners in BDO…we were advised that the shares are held in Gibraltar.” 97. The reason for setting up Karakus was given as Mr Webb’s awareness that competitors were operating arrangements which transferred advertising outside of the UK. Mr Webb had approached Ernst and Young but did not like their scheme and therefore approached Arthur Andersen. The record of the meeting noted that the initial scheme was intended to operate from the Channel Islands but as a UK credit broker’s licence could not be obtained there it was decided to operate from Gibraltar. The reason for the arrangement was recorded as being a commercial decision to improve profits by the saving of VAT. Mr Webb is recorded as confirming that there was no other commercial reason for the decision other than the avoidance of VAT. 98. There was also a “rough extract of items contained in the notes taken by John Penney” (HMRC officer) which were not covered in the formal report. Those notes recorded that the Appellant invoiced Karakus on a weekly basis which was paid by telegraphic transfer. A print out was provided to Karakus which gave details of the applications but these were “not sent all the time (would allow random monitoring by K).”
“4.5 The Company, upon demand by way of invoice from the Credit Broker to the Company, but not otherwise, shall pay to the Credit Broker an additional fee for the services provided by the Credit Broker to the Company in a sum to be agreed between the Credit Broker and the Company and, in the absence of such agreement, in a sum equal to 233% of the average weekly payments made or payable by the Company to the Credit Broker over the four weeks immediately prior to such demand. 4.6 The Company shall pay any invoice submitted by the Credit Broker pursuant to clause 4.5 immediately upon receipt of the Credit Broker’s invoice. The time of payment shall be the essence of the contract. The Credit Broker may only exercise its rights under clause 4.5 once in any one year.” 102. It was accepted on behalf of the Appellant that there is no evidence of negotiations to show how and why this was agreed. The terms which require immediate payment by Karakus support HMRC’s case that the arrangements were under the control of the Appellant who had the power to introduce onerous terms. 103. A document dated26 March 2000 signed by Mr Alan Kentish (“ARK”) entitled “Review of commercial benefits of Karakus Limited (“Karakus”) entering into debenture” included the following: “Karakus is a licensed credit broker in the UK that uses Wilmslow Financial Services Limited (“WFS”) exclusively to process loan applications from leads generated from advertising. Karakus has agreements with a number of finance houses and advertising agencies. WFS will be owned by WFS Holdings Limited (“WFSH”) which is being incorporated for this transaction WFSH will borrow£9 million from its new shareholder JZI Finance Limited (“JZI”). These funds will, inter alia, be fed by WFSH to WFS and be utilised by WFS to continue to expand and grow WFS’s business. … In addition WFS has forwarded the idea that Karakus should also enter into a debenture with WFS to provide extra security to JZI for this loan. … The anticipated benefits of entering this debenture The director’s of Karakus believe that by entering into this debenture, it will facilitate WFS in securing this loan. This in turn will allow WFS to expand their expertise and their advisory capacity. As Karakus is one of WFS’s principal suppliers of business, this will mean that Karakus will receive a more rounded service and more comprehensive advice. The result of which will be that Karakus can expect a significant increase in business inflow by way of loan applications. It is clearly seen that the number of loan applications is a direct reflection of the advertising spent by Karakus. By utilising the increased presence and branching of WFS in the marketplace as a result of this expansion, Karakus will benefit by reduced advertising rates which in turn will bring about more loan applications and increased revenue. The negatives of entering into the debenture and mitigation strategy Clearly the main downside of entering into a debenture is that Karakus’s assets will be subject to a registered charge in favour of WFS and WFS will probably assign the benefit of the debenture to JZI. The debenture could be enforced by JZI if WFSH failed to meet its loan obligations to JZI. To mitigate this unlikely position, it is proposed that JZI should agree and so should WFSH (and WFS) that the debenture should only be enforced against Karakus once WFSH and its subsidiaries (including WFS) had utilised all their assets and resources in attempting to repay the loan to JZI. Conclusion The directors believe that there is commercial justification in entering into the debenture with WFS.” 104. HMRC contend that the document is “window dressing”
“…may at any time by notice in writing to the Chargor convert the floating charge into a specific charge with reference to any assets specified in such notice and by way of other assurance of such specific charge the Chargor will promptly execute over such assets a fixed charge in favour of the Chargee in such form as the Chargee shall require.” 106. At Clause 4 the following “further assurances” were given: “The Chargor shall at any time if and when required by the Chargee execute in favour of the Chargee or as the Chargee shall direct such mortgages pledges liens or charges in such form as the Chargee shall require over all the Chargor’s right, title and interest in the undertaking p”roperty assets and rights of the Chargor now or at any time hereafter acquired by or belonging to the Chargor to secure all indebtedness.” 107. Clause 5 provides that all indebtedness shall become immediately due and payable on demand at any time and failing immediate payment the security created by the debenture becomes immediately enforceable. 108. I accepted the Appellant’s submission that a debenture is not unusual in commerce for one party’s security where sums are owed to another, however the terms of the debenture provide for the charge to be immediately enforceable so that at any time the Appellant could have a charge over Karakus’ assets. The wide scope and onerous nature of the power given to the Appellant supports the finding that this was not arm’s length trading and that the Appellant continued to have leverage and control over Karakus even after the shares were gifted. Furthermore, the debenture allowed for assignment which meant that it would remain in effect even if the Appellant assigned its rights thereunder to a competitor of Karakus. I rejected the Appellant’s submission that the justification for the debenture is not undermined as it could only be used by 3 rd parties to enforce debts owed by Karakus to the Appellant; in my view the debenture is uncommercial and is further evidence of the Appellant’s control over the arrangements to its own benefit. 109. Karakus’ annual report to the year ending30 June 2000 show that the share capital of the company was held by Jordan Nominees (IOM) Limited, the directors considered that the Ark Trust is the ultimate controlling party and the average monthly number of persons employed by the company during the year was four and in 1999 it was two. The turnover in the unaudited 1999 accounts was£5,845,563 and in the 2000 accounts was£12,337,966 . 110. By comparison the Appellant’s profits were substantially greater. In my view this indicates that the benefit of the advertising services were accruing in the Appellant. I noted the submission on behalf of the Appellant that as it carried out the greater proportion of work it follows that its profits were higher. However, at this point there is still no evidence of any work undertaken by Karakus and no evidence of any commercial input or decisions made in relation to the loan broking business; the level of profit was consistent in my view with that of a shell company. 111. A letter from Karakus to HMRC dated5 September 2000 stated: “The Company’s activity is that of a licensed credit broker that generates its business through advertisements in the media…Wilmslow will process…applications in accordance with our guidelines. At the same time we receive a copy of all applications so that we may review and veto applications if so required.” 112. As previously stated, there was no evidence before me to support the assertion that Karakus had either the resources or expertise to review applications or that it ever exercised its veto. The inference to be drawn from the evidence as a whole is that Karakus did not make any commercial decisions nor did it evaluate or consider the advice provided by the Appellant but rather the Appellant made the decisions which were communicated to Karakus. 113. On 14 or15 September 2000 (both dates are contained on the notes) HMRC had a meeting with Mediability the purpose of which is recorded as “to investigate activities of the sole supplier of advertising i.e. Mediability”
“Working with Marrache and Co (solicitors in Gib) AA were introduced to another company Jordans International Services. It was determined that to have substance the company in Gib would have to act as a financial intermediary, but it couldn’t be owned, controlled or operated by WFS or M. It was also necessary for WFS to give up its work in the UK to the Gib company. The Gib company being third party would have to employ somebody in the UK to act as a vetting agency (another intermediary), i.e. subcontract services to UK company because they couldn’t be performed in Gib. It was necessary for that company to continue advertising to get M business, but advertising in the name of WFS. … There was a need to convince WFS that its commissions from lenders would now be paid to K. Obtained information from Jordans for off the shelf Gib company (i.e. K) to avoid company being controlled by RW. Two shares in K; one held by John Swann (Jordans) and other by Jordans International Services (IOM) on trust. Beneficial interest held by RW in at least one share, MR to check on other beneficial shareholding at that time. Even though shares held on trust by RW there was no day to day involvement. RW was said to be concerned with regard to possible misappropriation of funds. BDO Fidec addressed these concerns and arranged for bank account for K to be only accessible by RW. (MR to check if RW was sole signatory at that time). These arrangements satisfied RW at this point. … Safeguards leave K independent. Subsequent changes mean that K, by agreement, have taken control of bank and shares not now said to be held for the beneficial interest of RW. (ST asked for confirmation that RW has totally lost control of shares and cannot get benefit - MR to provide confirmation of trust activities and relevant dates). … ST asked who was driving the arrangement. MR said it was AA who were driving it. Re advertising: - M bill K and M have direct contact with K. WFS know what is successful in the way of advertising and will advice K. MR explained change in contract - WFS contracted to negotiate with M but orders are always placed by K. … M have day to day dealings with WFS though a meeting has taken place between WFS and K, believed by MR/AG to be at a premises of M.” 114. The note is consistent with the evidence that the sole purpose of setting up the arrangements was for the Appellant to achieve a tax advantage from VAT free advertising. The note indicates that the arrangements were deliberately designed to distance the Appellant but that the purported lack of control was no more than a veneer, for instance: “Even though shares held on trust by RW there was no day to day involvement. RW was said to be concerned with regard to possible misappropriation of funds. BDO Fidec addressed these concerns and arranged for bank account for K to be only accessible by RW.” 115. The involvement of Arthur Andersen was to assist in the arrangement and implementation of a tax driven scheme and the day to day contact between the Appellant and Mediability infers that the commercial reality was that the Appellant made the decisions in relation to advertising. Although Karakus may have placed orders and been invoiced by Mediability and there is reference to direct contact between Mediability and Karakus, there is no detail as to the level of Karakus’ involvement or whether it had any commercial input of any substance beyond following advice and directions given by the Appellant. Overall the note demonstrates that the commercial relationship was between the Appellant and Mediability rather than Mediability and Karakus. 116. In September 2000 Mr Webb’s shares in Karakus were transferred to the Ark Trust. The only document in support is a declaration of trust dated18 September 2000 . There is no evidence providing background to the transfer nor evidence of negotiations. On its face, it appears wholly uncommercial for Mr Webb to have transferred his shareholding without consideration or any apparent protection to the Appellant. In those circumstances and against the background of the evidence as a whole, I accepted HMRC’s submission that it was a reasonable inference to draw that the Ark Trust was a trusted third party which would continue to follow the arrangements to achieve the desired result, namely the benefit of VAT free advertising for the Appellant. The Appellant accepted that the transfer may appear uncommercial but submitted that if the Appellant was satisfied that it was making sufficient profit from the arrangements then there was no reason why the shares should not be transferred, noting that the Appellant continued to make a substantial share of profit from the processing work. This, in my view, is speculation; without any evidence in support there is no basis upon which I can make a finding as to the motive of the Appellant or the level of satisfaction in respect of the profits made. The Appellant’s query as to why a bona fide company would take over if its sole purpose was to make profits for the Appellant misses the point that whether or not the company was bona fide, it was put in place as part of the arrangements for the sole purpose of making the scheme effective; in those circumstances the clear inference is that the company was a trusted third party who was aware of the arrangements. 117. In a letter dated30 November 2000 from Mr Mark Chadwick, Finance Director of the Appellant, to HMRC it was stated in response to queries raised that as there had been no system in place during the period of the claim by which to distinguish between the Appellant and Karakus cases on the accounting system, alternative techniques were adopted. In order to separate the companies’ cases retrospectively a report was run on the loan processing system listing all questionnaire fees incurred and splitting them by broker. The Appellant correctly noted that the broker could be identified from the commissions entered onto the system, however it seems to me an odd feature if the two companies were truly independent that initially there was no such system in place and in my view indicates the treatment of the companies as essentially one business. 118. In a letter from Arthur Andersen to HMRC dated12 March 2001 Mr Ruffles explained that the approach to Arthur Andersen was made by Mr Grundy of Mediability without the knowledge of Mr Webb in order to see if Arthur Anderson could assist in retaining an important client. Subsequently Mr Webb was present at meetings to discuss the proposed restructuring, however Mediability remained the client of Arthur Andersen. Following a change to the First Agreement for a reduction in the fee charged by the Appellant, it was also agreed between the parties that Karakus would undertake a quarterly review of the procedures employed by the Appellant in respect of loan applications that related to its lenders. Initially all loan applications were sent by the Appellant to Karakus who would then forward the applications to the lenders. As that procedure delayed the receipt of processed loans and the payment of commissions, Karakus agreed with the Appellant that loan applications would be sent directly to the lenders with copies being sent to Karakus who could still exercise its veto where appropriate. Only the Appellant could monitor the effectiveness of any advertising campaign and only the Appellant and Mediability together who could determine where advertising was likely to be most effective. As Karakus realised this, the contract with the Appellant was amended to give the Appellant the authority to negotiate with Mediability for and on behalf of Karakus who then placed the order. Employees of Karakus visit Mediability on a regular basis to discuss the structure of advertising campaigns and ensure that Karakus is fully involved in determining how advertising was placed and to monitor the effectiveness of negotiations between the Appellant and Mediability. 119. The letter is from the tax advisers who devised and implemented the scheme to HMRC and in my view the assertions set out therein must be viewed in this context. It is correct that the First Agreement was amended to give the Appellant authority to negotiate with Mediability on behalf of Karakus, however for the reasons set out above I am satisfied that the contractual arrangements did not reflect the commercial reality of the transactions. This conclusion is reinforced by the acceptance that only the Appellant is able to monitor the effectiveness of advertising and in reality, any order placed by Karakus was directed by the Appellant. Nothing turns on whether it was Mr Grundy or Mr Webb who approached Arthur Andersen as it is clear from the evidence that the Appellant was heavily involved in the implementation of the arrangements and was, in reality, the main beneficiary of them. There is no evidence to support the assertion that employees of Karakus visit Mediability on a regular basis to discuss advertising structure. I have already set out my findings in relation to the amendment to the Agreement which provided that the Appellant forward loan applications directly to the lenders and the assertions set out in the letter above does not address the contemporaneous evidence that applications were not always sent to Karakus, that in reality there was no provision to allow Karakus time to exercise its veto, no evidence that it ever did and no evidence that it had the necessary resources or knowledge to do so. 120. By letter dated30 March 2001 HMRC notified Mediability of assessments arising from the “economic substance of the arrangement” by which HMRC considered that Karakus was interposed between Mediability and the Appellant for the sole purpose of avoiding the charge to VAT which would not have been recoverable by the Appellant and that advertising services continued to be supplied to the Appellant by Mediability notwithstanding the contractual arrangements. 121. A letter from Mr Webb to Mr Grundy at Mediability dated18 October 2001 stated: “I find myself in an impossible situation with regards to the guarantee that is currently in place especially as two weeks ago you had agreed to release Isabelle and I from this guarantee. The situation currently is that there is£1.5million (of my tax paid funds) in an escrow account to cover the VAT pre JZ International acquisition should the Karakus situation fall apart. There is also a guarantee from Freedom Finance to Mediability to cover the post acquisition liability. You have now demanded that Isabelle’s and my guarantee remain in place should Freedom be unable to meet the obligations of their guarantee. This is not acceptable to me. I think that you have to make a commercial decision based on the following points. The advice we are all hearing is that the Karakus situation is robust and will survive therefore making these guarantees irrelevant. If Customs and Excise do win it is unlikely that a retrospective payment would be required but only that the scheme be halted… It is totally wrong that Isabelle and I should be bearing the risk for Freedom Finance to have the benefit of the VAT scheme.” 122. While tax mitigation arrangements are not unlawful, as the authorities make clear the arrangements must be considered in light of all of the evidence in order to determine their proper characterisation. In my view, the contents of this documents are a feature to take into account in assessing the evidence as a whole. In the context of the situation at this point, Mediability had been assessed by HMRC and the letter from Mr Webb is clear in its reference to the arrangements as a scheme such as “the Karakus situation” and the Appellant receiving “the benefit of the VAT scheme” which weighs in favour of HMRC’s case that it was the Appellant who carried out the loan broking activities and received the supply of advertising services. 123. In a letter from Mediability to Mr Webb dated29 October 2001 Mr Gundy stated: “…I agree that certain commercial decisions need to be taken that will minimise or eliminate personal liabilities for both of us. It seems to me, however, that the current proposal does not achieve that result but merely moves your potential liabilities onto me. I have been working with Martin Ruffles at Andersen to seek a solution to our dilemma and I think we may be close to achieving a result that will allow me to release you and Isabelle from the Fairdene cross guarantee… The proposed solution works as follows: I will incorporate a new company (NewCo), which will become a media provider to all of the existing clients of Mediability Ltd except for Karakus. The Karakus account will remain with Mediability and allow Mediability to provide Karakus with all of its current media needs… If the dispute with Customs and Excise becomes prolonged and eventually results in them making a demand of many millions of pounds against Mediability Ltd we can take a view as to whether or not Freedom Finance can satisfy that debt under the terms of its cross guarantee. Your cross guarantee will, of course, be void by that time and you will have no liability to Mediability Ltd beyond that which arises up to31 March 2000 … I think it is important that I qualify point 5, in which you refer to earnings made by Mediability. Whilst it is true Mediability’s net income has amounted to£400,000 , I feel it necessary to compare this with the VAT savings Karakus enjoyed in the same period,£3,275,000 . Whilst I have always accepted that there will be such a disparity I feel we should honour our agreement that Mediability should not be required to assume an uncontrolled financial liability and I ask for this point to be foremost in all further correspondence or discussion between us. As stated at the start of this letter I agree with you that your guarantee should end as quickly as possible. Nonetheless, my liability for the arrangement lies with both the uninsurable advertising account (£900,000 per month) with Karakus and with the accumulating potential VAT debt… As we are unable to insure the Karakus advertising account, to satisfy the NPA’s demands I have had to introduce£650,000 of additional capital to Mediability. This capital will result in me being unable to take any benefit from the profits generated by the Karakus account and other advertising accounts for a significant period of time and does, I believe, demonstrate my commitment to our relationship. Again, I agree that it is wrong that Isabelle and yourself should be bearing the risk for Freedom Finance to benefit from the VAT arrangements. However, I do not see how it then follows that I and Mediability should be bearing the risk on your behalf. This would be the outcome of the current proposal. Until such time as we mitigate the effects of the “worst case scenarios”
“The issues that I am about to discuss impact in certain respects solely upon Mediability or Freedom Finance and in other respects jointly upon both companies. Even where an issue could be regarded as having an impact upon just one of the companies, it is important in my view that we cease looking at these problems in isolation to the totality of the structure as a whole. Unless we address the issues that are facing us on a collective basis we are going to go round and round in ever decreasing circles until the benefits of the arrangements are either lost to all parties or are severely damaged. The Karakus Arrangements - Purpose The structure that has been entered into was designed to allow Mediability to continue providing media services in such a way that it did not suffer the loss of the substantial account previously held with Freedom Finance. Freedom Finance wished to preserve its relationship with Mediability, but was being invited to use another media provider because to do so would confer a significant advantage in that VAT would be removed from its advertising expenditure…. The Karakus Arrangements - Consequential Effects In order for Freedom Finance to achieve VAT free advertising it is necessary for Mediability to provide those services without the addition of VAT. This places Mediability at risk from attack by HM Customs and Excise, (C&E). As we are all aware, C&E have considered the arrangements and are challenging them. This action by C&E was considered when the structure was first implemented. Certain guarantees were entered into by both Fairdene and Freedom Finance to ensure that Mediability, if it was eventually required to remit payment of VAT to C&E, would have funds made available to it to discharge ant such liability. … Freedom Finance The principal beneficiary of the arrangements is Freedom Finance. The elimination of VAT from advertising expenditure has generated additional income of£3m + to date. There has, however, been a cost to Freedom Finance in that its fees against Karakus are depressed by the increased commissions that Karakus pays to Mediability… Mediability Mediability, however, is the party to the arrangement that carries the exposure to C&E. Similarly, Mediability does not gain any additional benefits from the arrangements by virtue of receiving enhanced commissions or other forms of enhanced remuneration. In other words, the arrangements that Mediability has entered into have been principally for the benefit of Freedom Finance with Mediability’s benefit being restricted to the maintenance of the status quo in respect of fees earned. Issues to resolve … Rupert wants the Fairdene cross guarantee removing whilst Alan needs to know that Mediability has adequate guarantees in place to preserve his company from liquidation. As the arrangements that are in place principally benefit Freedom Finance Alan believes that any expenditure incurred by Mediability that preserves the arrangements should be borne by Karakus. Freedom Finance take the view that Mediability should bear some of these costs. Alan feels that if Karakus is not prepared to carry the associated costs of maintaining the arrangements then Mediability should withdraw from the arrangements in order to limit the growing exposure to VAT. Freedom Finance feels that if Mediability will not carry some of the costs then they should suggest to Karakus that it moves its advertising account to another media provider… A solution … Karakus pays Mediability’s fees = restructure arrangements with Karakus to satisfy NPA = release of Fairdene guarantee with effect from01 April 2000 . Conclusion … Freedom needs to consider whether or not the arrangement is worth the payment by Karakus of Mediability’s fee…” 125. The letters are consistent with the fact that the sole purpose of the arrangements was for the Appellant to receive VAT free advertising from Mediability. Although there was a benefit to Mediability in keeping its account with the Appellant it is clear that the principal beneficiary of the scheme was the Appellant as a result of the saving on VAT. The discussions in the letter indicate that the Appellant controls the scheme and has the power to make decisions; in my view it is notable that Karakus, purportedly the principal in the arrangements, is not a part of the discussions which indicates that the decisions will be taken by the Appellant. My finding in this regard is reinforced by the statement suggesting that the Appellant has the power to commit Karakus to contractual obligations such as payment of Mediability’s fee. 126. The Appellant submits that the emails arose due to a dispute between Mr Webb and Mediability regarding the cross-guarantee and Karakus played no part in the dispute as it had given its own undertaking in relation to the advertising contract with Mediability. I rejected this submission which fails to take into account a letter from Mr Webb to Mediability dated18 October 2001 which makes the following explicit reference: “The situation currently is that there is£1.5 million (of my tax paid funds) in an escrow account to cover the VAT pre JZ International acquisition should the Karakus situation fall apart.”
“RECITALS (f) Bespoke also has considerable expertise in the field of advertising financial services and products. (g) Bespoke envisages that if it is entitled to use the Trade Marks then this will significantly benefit Bespoke. … 3.1 On and subject to the provisions of this Agreement Freedom grants to Bespoke a non-exclusive licence to use the Trade Marks in connection with the supply of the Products including on or in relation to any advertising marketing or any promotional material concerning the Products (including that prepared in connection with the Advertising Procurement) and on the Freedom Website. … 3.6 Bespoke shall use the Trade Marks in the form stipulated by Freedom and shall observe any reasonable directions given by Freedom as to colours and size of the representations of the Trade Marks and their manner and disposition on any promotional or marketing material, packaging and labels or any other tangible material relating to the Products and in respect of any geographical representation of the Trade Marks. 3.7 Unless the prior written consent of Freedom is obtained in respect of the Product in question, no Product which is supplied under or by reference to the Trade Marks shall include any advertising by or on behalf of any competitor of Freedom. 3.8 Whenever the Trade Marks are used by Bespoke they shall (in respect of registered trade marks) be accompanied by wording to show that they are registered trade marks and in the case of the Trade Marks generally that they are used by Bespoke with the permission of Freedom, the terms of such wording and its placing shall be as reasonably requested by Freedom. 3.9 Bespoke shall submit designs of all printed materials and graphic representations using the Trade Marks to Freedom for approval as to the manner and the context of the intended use of the Trade Marks and shall not make use of any such materials or graphic representations until they have been approved by Freedom which approval shall not be unreasonably withheld or delayed. … 3.15 Without prejudice to the provisions of clause 3.14 above, Bespoke acknowledges that any goodwill derived from the use by Bespoke of the Trade Marks will accrue to Freedom. … 5.1 Unless otherwise agreed in writing with Freedom, Bespoke acknowledges and agrees that save in respect of those circumstances where it is permitted under this Agreement to carry out processing services the same as or similar to the Processing Services or appoint a third party to do so being those circumstances detailed in clauses 5.13 and 5.14, all processing services or whatsoever nature including services the same as or similar to the Processing Services in respect of all of Bespoke’ requirements for the same which are generated directly or indirectly as a result of Advertisements, including all of Bespoke’ requirements in respect of Customers and Calls are to be carried out by Freedom or such third party as Freedom shall appoint and accordingly Freedom shall have the exclusive right, during the term of this Agreement, to itself carry out or appoint a third party to carry out such processing services. 6.1.8 Before broadcasting or publishing or procuring the broadcast or publication of any Advertisement it shall send a copy of such Advertisement to Freedom for its approval provided always that if Freedom does not within seven (7) days of having received a copy of Advertisement concerned give notice of its approval or rejection, Freedom’s approval of the Advertisement in question shall be deemed to have been given. 7. Payment and Fees 7.6 On the first Working day of each week Bespoke shall pay to Freedom the sum of…£250,000 (“the Advance”) … 7.13 Once in each Year Freedom shall be free to increase the ASP Service Fee, the Trade Mark Licence Fee and any of the other sums payable by Bespoke hereunder including for the avoidance of doubt increasing any fee payable for the Processing Services… … 8. Confidentiality/Non-Solicitation 8.1 Subject always to any provisions of this Agreement to the contrary…both parties agree: 8.1.1 to maintain secret and confidential the Information…” 140. Clause 9 provides that the agreement shall continue for an initial period of 10 years and thereafter until terminated by six months’ notice in writing, or in specified circumstances set out in clause 9.2 - 9.4. The consequences of termination are set out at clause 10 under which Karakus would cease to be able to use the Trade marks at all. Under clause 11 neither party is liable for any loss of profit, loss of goodwill, loss of data or loss of opportunity. Under the Agreement Karakus could not assign, transfer, sub-contract any right or obligation under the Agreement without the prior written consent of the Appellant. However, the Appellant was not subject to the same restriction and could assign, transfer, sub-contract any right or obligation (clause 17). In my view this was further evidence of the control held by the Appellant over Karakus. 141. The Appellant received£250,000 for the performance of specified services. However, under Clause 7.13 once per year the Appellant could increase the fees. Such a feature is, in my view, unusual if Karakus were controlling the arrangements. I agreed with the submissions on behalf of HMRC that the confidentiality provisions under Clause 8 were wholly inadequate if the Agreement was an arm’s length contract between two independent companies. Termination of the Agreement is severely restricted and would leave Karakus with nothing. 142. The terms are significantly more favourable to the Appellant than to Karakus which supports the fact that the Agreement is not arm’s length. The Agreement also contains a number of uncommercial features, such as the inadequate confidentiality clause and the restriction to termination rights. The recital notes that Karakus has considerable expertise in advertising financial services and products which is simply not borne out by the evidence in relation to loan broking. Furthermore, Karakus obtains the use of the Appellant’s trademarks but the licence prohibits Karakus allowing use by competitors whereas the Appellant is not subject to the same restriction and could therefore allow the use of its trademarks by competitors of Karakus which is, in my view, indicative of the Appellant’s control over Karakus and the arrangements. I did not accept the Appellant’s submission that prohibiting the use of the trademarks by Karakus is entirely commercial; I accepted that the trademarks belonged to the Appellant however the agreement, in my view, does not reflect the fact that it is Karakus which is said to be the principal and in my view it lacks commerciality for an independent company to agree that the sub-contractor, namely the Appellant, could use the trademarks without limit. The control given to the Appellant relating to use of its trademarks in advertising does not appear realistic if those activities were performed by Karakus. The goodwill from use of the trademark accrues in the Appellant (clause 3.15) which is consistent with the Appellant as the controlling mind, the Appellant maintains further control over all legal proceedings concerning infringement (clause 3.18). Karakus meanwhile had limited redress for breaches yet the Appellant’s remedies are advantageous. I also found the limited liability of both parties was uncommercial. 143. Under clause 5.1 Karakus is prevented from using another party to perform processing services which is inconsistent with the purported use of PDQ. The Appellant, however, is not subject to any such restriction which is consistent with its control. I rejected the Appellant’s submission that the correct reading was that that Karakus was only prevented from engaging a processor and allowing it to use the trademarks; on my reading clause 5.1 includes Advertisements which have used the trademark but is not limited to them. For the first time in the written agreements key performance indicators are included however there is no evidence to show that these were ever reviewed by Karakus. Although the customer data is owned by Karakus, the Appellant is not prohibited from sub-licensing the use of the data which could include a competitor of Karakus which is a wholly uncommercial feature of the Agreement. 144. A minimum amount is imposed on Karakus to spend on advertising per year. I agreed with the submissions for HMRC that there is no commercial reason why Karakus, as the purported principal, would agree to its sub-contractor being given the right to increase the amount (clause 6) and I accept that this is a further indicator of the Appellant’s control. I found it made no commercial sense for Karakus to be required (clause 6.1.3) to report to the Appellant about planned advertising and to send the Appellant proposed advertisements if Karakus was in control. Furthermore, there is no evidence to support the assertion that this ever in fact happened. 145. The Appellant noted that Recital G in which Karakus envisages that if it is entitled to use the Appellant’s trademarks then it will significantly benefit Karakus which will ensure that the Appellant stays “motivated”