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EC challenges UK’s ‘discriminatory’ anti-avoidance rules

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The landscape in a key area of UK tax policy is set to change ‘for ever’, a KPMG tax expert said after the European Commission announced that it has formally asked the UK to amend two anti-avoidance regimes.

The rules restrict freedom of establishment and the free movement of capital – two ‘fundamental principles’ of the EU's single market – and the restrictions go beyond what is reasonably necessary to prevent ‘abuse or tax avoidance’, according to the EC.

The effect of the ‘transfer of assets abroad’ legislation (ITA 2007 ss 714-751) is that if a UK resident individual invests in a company incorporated and managed in another member state by transferring assets to it, the investor is subject to UK tax on the income generated by that company. But if the same individual invests the same assets in a UK company, only the company itself is liable for tax, the Commission said.

Under the rules attributing gains of non-UK resident companies to members (TCGA 1992 s 13), if a UK-resident company acquires more than a 10% share of a company in another member state, and the latter company realises capital gains, the gains are attributed to the UK company for corporation tax purposes. If a UK company invested in another UK resident company, ‘only the latter would taxable on its capital gains’.

The EC believes that the restrictions are ‘disproportionate’ and has formally requested the UK to amend both rules. The requests take the form of ‘reasoned opinions’ and, in the absence of a satisfactory response within two months, the EC may refer the UK to the European Court of Justice.

‘Britain is understood to have told Brussels it does not accept that there is any infringement,’ the Financial Times reported. ‘The UK has defended the rules, saying they are used only to combat avoidance rather than genuine investment.’

KPMG said that in the event of a referral to the ECJ the case may take a number of years to be heard, but it was possible that the UK government may take pre-emptive action to avoid a referral.

David Kilshaw, chairman of KPMG’s private client practice in the UK, said any change in the law could have a ‘profound impact’ on the structure of UK tax legislation and how people operate businesses and hold investments.

‘To extend these anti-avoidance rules to UK companies would add compliance costs for such small companies and accelerate or increase the income tax charge on their owners,’ he added.

‘This could have a major impact on small business in the UK. It therefore seems more likely that the UK government will look instead to disapply the current rules only where EU companies are used for genuine business purposes other than to accumulate income.’