Court of Appeal confirms that compensatory payments made to settle regulatory investigations are not penalties

In ScottishPower (SCPL) Ltd and others v HMRC [2025] EWCA Civ 3, the Court of Appeal (CoA) held that payments made to consumers in settlement of regulatory investigations were not penalties and therefore were deductible for corporation tax purposes.

Background

 ScottishPower (SCPL) Ltd (SPL) is a well-known energy supplier who, between 2013 and 2016, was investigated by Ofgem in relation to various alleged breaches of consumer protection regulations. To settle the dispute and dispense of the investigations, SPL agreed to make redress payments of £28 million to consumers and various charities in lieu of penalties. Once the payments were made, SPL included them in its tax returns as a deductible trading expense. 

HMRC disagreed that the payments could be deducted for corporation tax purposes because, in its view, they were in effect penalties which are non-deductible in accordance with the principle in Commissioners of Inland Revenue v Alexander von Glehn & Co Ltd [1920] 2 KB 553. HMRC amended SPL's returns accordingly and SPL appealed to the First-tier Tribunal (FTT).

The FTT agreed with HMRC's analysis in relation to all payments except one payment of £554,013, which it considered to be compensation and was therefore a deductible expense. SPL appealed the decision to the Upper Tribunal (UT). Its appeal was dismissed and the UT held that the one payment excepted by the FTT was also a penalty.

SPL appealed to the CoA.

CoA's judgment

The appeal was allowed.

In the CoA's view, the payments were compensatory payments made to settle regulatory investigations and were not, therefore, penalties. In reaching its decision, the CofA focused on the substance of the payments rather than their label, concluding that they were intended to remedy a contractual failure rather than to punish SPL. On this basis, all of the payments were held to be deductible for tax purposes.

Comment

This decision provides some important clarification on the correct tax treatment of payments regulators require taxpayers to make and will be welcomed by businesses which make payments in a regulatory context, particularly those in highly regulated sectors where breaches can result in significant financial obligations. The CoA found that a long-standing principle denying tax deductions applies only to penalties, and not to redress or other payments, even if made in lieu of a penalty.

The judgment reinforces the principle that nature of a payment needs to be carefully examined and if it serves a compensatory function, rather than a penal function, it may be deductible as a trading expense.

The judgment can be viewed here.