Tax and the City in 2016

The UK has been very much a first responder on BEPS, and a key theme for 2016 has been turning BEPS theory into practice in UK tax law.

 

On interest deductions, following a consultation launched in May, at the Autumn Statement it was announced that rules will be introduced to limit tax deductions for large groups for UK interest expense, following the OECD model on BEPS Action 4. The rules will limit deductions where a group has net interest expense in excess of more than £2m, which exceeds more than 30% of UK taxable earnings, and where the group’s net interest to earnings ratio in the UK exceeds that of the worldwide group.

 

An OECD consultation is ongoing as to how the rules should be applied to the special circumstances of banks and insurance companies, whose scope for unacceptable BEPS planning is already limited by regulatory constraints. Despite this, the Autumn Statement confirmed that the UK rules will apply to banks and insurers in the same way as groups in other industry sectors. Although a degree of grandfathering is allowed under the OECD model, and is permitted in the EU equivalent rules in the Anti-Tax Avoidance Directive, the UK is not proposing any grandfathering for existing debt. However, the rules intended to protect investment in public benefit infrastructure will be widened.

 

The next stage in this process will be the consultation on over 50 pages of complex legislation required to introduce the interest cap in FA 2017. This will need to be settled with some degree of certainty in the short period to April 2017, when the new restrictions will take effect.

 

In September, the new anti-hybrids legislation dealing with BEPS Action 2 was enacted in the FA 2016, and comes into force without grandfathering on 1 January 2017. This interminable and impenetrable piece of legislation will continue to flummox advisers for some time to come, not helped by the absence of any useful guidance from HMRC (having been unceremoniously withdrawn shortly after publication and then reintroduced on 9 December). Minor changes are made to the rules in draft FB 2017 so that they will operate as intended; tinkering around the edges will not fix all that is wrong with these unwieldy rules, however.

 

In deciding to introduce these anti-multinational crowd-pleasers quite so quickly, the UK government has repeatedly rejected warnings as to the likely detrimental impact on UK competitiveness. There are, of course, dangers with this approach, in light of Brexit, and with equivalent EU rules coming into force later and, in some cases, with more limited scope. President-elect Trump may also have little sympathy for the internationalism that underpins the OECD BEPS project, and even less patience for its detail.

 

Despite being one of the biggest news events of 2016, the outcome of the EU referendum in June has not been felt with any vigour in the tax world to date.

 

Notwithstanding a plethora of learned articles on the likely impact of Brexit on UK tax, the output from the government in this area has been much more muted, if non-existent. A House of Commons briefing paper published straight after the referendum concluded that the implications of the UK leaving the EU are likely to be less significant for tax compared with other policy areas.

 

This optimistic assessment overlooks the numerous EU directives that now deal with direct tax issues, such as the parent subsidiary, mergers, and interest and royalties directives. If the UK is no longer able to benefit from the protections from withholding tax on intra-EU payment flows covered here, its tax treaty network will need to take up the slack.

 

Despite a general focus on Brexit in the Autumn Statement, the government continues to be circumspect as to its impact on tax. The government did confirm, however, that it will consider the balance between revenue and competitiveness with regard to bank taxation, taking into account the implications of the UK leaving the EU. As the government is so keen to keep its cards close to its chest, at the end of 2016 speculation is therefore largely all we have to go on as to how these issues, the existing VAT regime, and other areas of administrative cooperation, will be dealt with after article 50 is triggered, and eventually in the Great Repeal Bill.

 

The EU itself has become quite prolific in terms of its own output of tax related directives in 2016. First, in June came the Anti-Tax Avoidance Directive, intended to introduce a number of anti-BEPS measures on a consistent basis across the EU. The crowning glory came in October, however, with the re-introduction of the common corporate tax base (that will eventually morph into rules that can be applied on a consolidated basis). This draft directive is an entire tax code in miniature, with some added innovative features, including a proposed deduction for equity. If this particular directive ever gets off the ground, the EU will surely have put the UK’s Office of Tax Simplification to shame.

 

In the year’s case law developments, HMRC continued its run of success in defeating tax avoidance schemes.

 

A number of these involved loan relationships, perhaps justifying the introduction of new anti-avoidance measures in this area. In March, for example, the First-tier Tribunal found that transferring funds from one corporate pocket to another within a group was not sufficient to magically create a relievable loan relationship debit (in Stagecoach Group PLC v HMRC [2016] UKFTT 120 (TC)). Also in March, the Supreme Court gave its latest take on the application of the ‘new approach’ to the purposive construction of tax statutes. Here, in the context of a scheme designed to avoid tax on bankers’ bonuses (UBS AG v HMRC [2016] UKSC 13), the court held that the relevant tax rules were directed at ‘real world’ transactions, with ‘real world’ economic effects.

 

HMRC went on to further success in September with this approach in Chappell v HMRC [2016] EWCA Civ 809, where the Court of Appeal held that the rules on manufactured overseas dividends were also intended to deal with real world, commercial transactions for the lending of marketable securities, and not to arrangements whose only purpose was to avoid tax.

 

The year has not been entirely plain sailing for HMRC, however, with the courts critical on a number of occasions of a rather cavalier approach to the extensive powers given to HMRC in recent anti-avoidance legislation. In August, for example, in a judicial review case (Vital Nut Co. Ltd v HMRC [2016] EWHC 1797 (Admin)), the High Court found that HMRC could not ignore taxpayer safeguards in the rules for accelerated payment notices simply on the basis of the responses to its own consultation.

 

Failures in administration by HMRC have also come in for censure. Embarrassingly, in the high profile case on withholding tax on statutory interest in the Lehman’s insolvency (Lomas v HMRC [2016] WEHC 2492 (Ch)), the High Court reprimanded HMRC for issuing inconsistent statements in guidance in the context of transactions with a high degree of market sensitivity. HMRC may also shy away from further interviews with the press following the finding of the Supreme Court that it had breached confidentiality in denigrating a taxpayer to journalists (in Ingenious Media Holdings v HMRC [2016] UKSC 54).

 

Another theme of 2016 has been the plethora of ever more elaborate anti-avoidance measures impacting both corporates and their advisers.

 

First, in February, came a new hallmark under the disclosure of tax avoidance scheme (DOTAS) rules requiring disclosure of financial products used as part of tax planning arrangements. The breadth of this hallmark required the government to specifically exclude certain types of common or garden tax planning from its scope. Corporates in particular will, however, need to pay particular attention to the hallmark, and to updated guidance published in October, to test whether disclosure is now required. Perhaps on the basis of the good behaviour noted in HMRC’s first report from January on the operation of the code of practice on taxation for banks, disclosure is not required under this hallmark if the tax planning is code compliant.

 

The enactment of FA 2016 in September saw a new regime for serial tax avoiders. For these purposes, failed tax avoidance can include reliance on a scheme disclosed under DOTAS that results in amendments made by HMRC to a tax return. Draconian consequences, with limited appeal rights, then follow, including naming and shaming, and the restriction of tax reliefs. FA 2016 also introduced the requirement for large business to publish their tax strategies online, together with sanctions for those that are persistently uncooperative. In the latter case, special measures for large businesses can be imposed where their behaviour delays or hinders HMRC in determining tax liability, and the company is a party to a tax avoidance scheme (including arrangements disclosed under DOTAS).

 

2016 will also be remembered as the year in which the tax avoidance spotlight moved uncomfortably close to lawyers, accountants and other advisers. Here, summer holidays were rudely interrupted with an announcement by the newly installed financial secretary that enablers of tax avoidance would face tough new penalties of up to 100% of tax underpaid. The measure is intended to rout out tax avoidance at source by targeting all those involved in its supply chain. The proposals then faced a barrage of criticism from the professions in the resulting consultation over the summer.

 

While noting, rather diplomatically, the extensive consultation and input from stakeholders, the government announced at the Autumn Statement that these new measures will still go ahead. At first glance, the draft legislation for FB 2017, published on 5 December, looks much more manageable for the vast majority of compliant tax advisers. Not content with stopping there, the government will also go ahead with removing the defence of having relied on ‘non-independent’ legal advice as taking reasonable care in considering penalties. Worries for the rule of law, and human rights, even those of lawyers and accountants, will undoubtedly continue into 2017 in this hostile environment.