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FA 2021: Hybrids and other mismatches

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The Part 6a rules have been burdened with excessive prescriptiveness since their introduction in FA 2016. When combined with the absence of any tax avoidance filter – which is a deliberate policy decision mandated by the OECD’s BEPS Action 2 final report – the inevitable result is that the rules apply in certain situations where, looking at things in the round, there is no real double deduction or deduction / non-inclusion mischief. Furthermore the worldwide reach of the rules (and especially the ‘imported mismatch’ provisions) can mean that in some circumstances it is practically impossible to determine the extent to which the rules apply to a given payment, forcing an adverse self-assessment on a prudent basis. The FA 2021 changes show that HMRC remains willing to engage with taxpayers and advisers to fix some (though not necessarily all) of these difficulties, and (which is welcome) to do so through legislation rather than guidance. Many of the changes are retrospective to the introduction of the rules on 1 January 2017 (or electively so), and so taxpayers should consider whether it is possible to amend past returns where appropriate. (Not all of the changes are taxpayer-friendly, but at least those that are not are also not retrospective.)

The changes to the ‘acting together’ rules should reduce the scope for these mechanical provisions to identify a ‘control group’ or ‘related’ status in inappropriate circumstances, such as where disparately-held partnerships are involved. In similar vein, the new Chapter 13A allows sub-10% holdings in transparent funds to be ignored for certain purposes in testing for the presence of deduction / non-inclusion mismatches. These changes will be particularly helpful in the private equity context. 

The changes to the ‘dual inclusion income’ rules, including provision for so-called ‘deemed’ dual inclusion income, are positive so far as they go – but not a cure-all. (See ‘Finance Bill 2021: hybrid mismatch rules version 2.0’ (Nick Evans & Claudine Fox), Tax Journal, 9 April 2021 for an analysis of some of the gaps that remain.) The same goes for the new rules allowing surplus dual inclusion income to be allocated around a group. M&A practitioners will need to add these to the list of rules for which provision is required on selling companies out of a group.

One area where less progress has been made is in how the rules process certain non-UK tax regimes, in order to test (for example) whether an entity is ‘hybrid’ or whether there is ‘ordinary income’. It is good to see the ‘imported mismatch’ rules defer more readily to other jurisdictions’ application of their own OECD-inspired rules. However, changes to the ‘hybrid entity’ definition were dropped from the Finance Bill at committee stage, perhaps because they narrowed the definition too far by mistake. We will have to wait until next year for those changes (which may yet be retrospective to 2017). Uncertainty also remains over the treatment of amounts included as GILTI under the US subpart F rules.

Issue: 1540
Categories: In brief