Companies understandably may wish to provide financial as well as moral support to their directors if they are facing litigation. However, the issue of whether such contributions are tax deductible is far from straightforward and exercised the minds of three Court of Appeal judges in a guideline case.

The case concerned a businessman who set up an IT company, of which he was the sole director, in competition with his former employer. The latter sued him, alleging breaches of his employment contract and fiduciary duties and misuse of confidential information. The former employer’s claim was initially successful, but that decision was overturned after the businessman appealed.

Solicitors who had represented the businessman in the proceedings sent a number of invoices in respect of their fees. The bills were addressed to him in person, but were paid by the company. The company sought an input tax credit in respect of the VAT element of the invoices. This came to almost £80,000. The claim was resisted by HM Revenue and Customs who, after losing the argument before the First-tier Tribunal (FTT), succeeded before the Upper Tribunal.

In allowing the company’s appeal against the latter decision by a majority, the Court found that the invoices related to services provided to the businessman and to the company under what was in contractual terms a joint retainer. The businessman and the company were jointly and severally liable to pay the bills and the company was thus entitled to claim back the VAT.

Although the company had not been a party to the underlying litigation, the reality was that the former employer’s aim in pursuing it was to put the company out of business as a competitor. Had the former employer succeeded in its case against the businessman, the company would have been exposed to a claim for an account of profits yielded from his breaches of duty. In restoring the decision of the FTT, the Court ruled that the services provided by the solicitors had a direct and immediate link to the company’s taxable activities.