The decision of the House of Lords in Sempra Metals Ltd v Inland Revenue Commissioners and another (2007) brings to a successful conclusion the efforts of that company to claim restitution in respect of millions of pounds worth of advanced corporation tax (ACT) that Sempra had paid over the course of nearly twenty years.
In this final episode, the House of Lords has taken up Sempra’s invitation to rewrite the law of interest so as to allow compound interest to be awarded much more frequently than had previously been the case. In so doing, their Lordships overruled two of their own decisions and side-stepped another.
The decision in Sempra will have a substantial impact on commercial litigation generally and will lead to higher recoveries, particularly in cases where sums have been outstanding for longer periods. The existing practice of claiming statutory pre-judgment interest will continue, but many claimants will now have the option of claiming compound interest under the general law.
Sempra is likely to be followed by cases raising difficult questions about the proof and measurement or calculation of that compound interest.
Metallgesellschaft/Hoechst in the ECJ
In proceedings launched as far back as 1995, Sempra challenged the conformity of the ACT regime with EU law. That challenge was referred to the European Court of Justice (ECJ) along with the parallel claim made by Hoechst AG. (Sempra was then called Metallgesellschaft Ltd.)
The ACT regime required that upon the payment of a dividend, the paying company should also pay an advance on its corporation tax. But where the payment was made within a group of companies, all of which were resident in the UK, the group could make what was called a ‘group income election’, the effect of which was that no advance payment was required.
The option to make a group income election, and so avoid having to pay corporation tax early, was not available to Sempra because it was the subsidiary of a German parent company. The effect was that Sempra was required to pay part of its corporation tax months and sometimes years earlier than would have been the case had it belonged to an entirely British group of companies.
The ECJ upheld Sempra’s and Hoechst’s contentions, ruling in 2001 that the ACT regime had discriminated against them in a manner that imposed an unwarranted restriction on their EU treaty rights to freedom of establishment.
In point of law, that decision involved a landmark expansion of the role of EU law in regulating national tax regimes. In practical terms, the decision had potentially enormous financial implications for the Inland Revenue. While ACT had by this time been abolished in 1999, the Revenue now found itself facing multinational groups claiming to recover in respect of ACT paid since as far back as the UK’s entry into the European Community in 1972.
Because ACT was periodically offset against ordinary corporation tax, the principal sums of ACT had already been accounted for. The ECJ held, however, that Sempra and Hoechst were entitled to be reimbursed in respect of the notional interest they had lost and the Revenue had gained while the advance payments remained outstanding. The precise nature of their remedy would, however, be a matter for English law.
Two points of principle fell to be decided by the English courts. The first was whether claims were limited to ACT paid within the previous six years and whether that period could be extended; and the second was how the notional interest should be calculated, and in particular whether it should be compounded.
By now several multinational groups had joined Sempra under the aegis of a group litigation order. Within that framework test cases were advanced in respect of both issues.
DMG in the House of Lords
Deutsche Morgan Grenfell (DMG) was put forward as the test claimant in respect of the limitation issue in DMG v Commissioners of Inland Revenue (2006). The question was essentially whether DMG was entitled to frame its case as one seeking restitution for mistake of law and thereby bring its case within Section 32(1)(c) of the Limitation Act 1980. Under that provision time does not run until the mistake in question is discovered or becomes discoverable with reasonable diligence.
The Court of Appeal took the view that English law does not allow claims to recover taxes overpaid by mistake of law, but this decision was reversed by a 4:1 majority in the House of Lords in 2007, Lord Scott dissenting. Their Lordships held that the cause of action of restitution for mistake of law they had recognised in Kleinwort Benson Ltd v Lincoln City Council (1999) was available in tax cases just as in cases involving payments of other sorts.
Their Lordships also held that DMG’s mistake in believing that it was bound to pay ACT was not discoverable until the ECJ gave its decision in 2001. The consequence was to allow recovery of notional interest in respect of ACT payments dating as far back as 1973 in some cases. Pundits speculated in the newspapers whether the financial consequences of the decision, across all ACT claimants, would be in the billions or the tens of billions of pounds.
Given this threat to the Treasury, within a few short months the Government brought forward legislation attempting to reverse the effect of the DMG decision (Finance Act 2007 section 107). DMG itself and the other members of its group litigation order are allowed to enjoy the fruits of their victory, but so far as others are concerned, tax claims are retroactively excluded from the scope of Section 32(1)(c).
Sempra in the House of Lords
Sempra was itself put forward as test claimant of the question of whether the notional interest should be compounded. In the lower courts, Sempra succeeded on the basis of a contention that the ECJ had specifically mandated compounding. In the House of Lords, however, the case took a different direction. Their Lordships preferred to decide the case on a point of domestic English law that was only fully developed in a second set of written submissions and during a second hearing requested by their Lordships.
In finding for Sempra, the House of Lords has held that compound interest can be given as damages in contract and tort where it is the true measure of the claimant’s loss, and as restitution where it is the true measure of the defendant’s gain. Claimants are still entitled to instead claim pre-judgment interest under Section 35A of the Supreme Court Act 1981 or under the Late Payment of Commercial Debts Act 1998, which do not allow for compounding, but also do not require the same exercise of pleading and proof. This is a radical decision in that compound interest has until now only been available in very exceptional cases.
In reaching their conclusion that compound interest should be available as general damages for breach of contract, their Lordships overruled two of their own decisions – London, Chatham and Dover Railway Co v South Eastern Railway Co (1893) and President of India v La Pintada Cia Navegacion SA (1985). Further, in deciding that compound interest can be given as restitution, their Lordships overruled a clear line of early authorities and sidestepped another more recent decision where the contrary position had been assumed by all parties and compound interest refused – Westdeutsche Landesbank Girozentrale v Islington LBC (1996).
The decision in Sempra is to be welcomed for finally putting the English law of interest onto a broadly defensible footing.
Steven Elliott is a barrister at One Essex Court