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Views on draft Finance Bill 2015

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Peter Jenkins, VAT consultant, Peter Jenkins Associates

The chancellor's decision in the Autumn Statement to include the activities of the air ambulance and search and rescue charities and the hospices providing care for the terminally ill in the UK VAT rebate scheme in s 33 from 1 April 2 015 is a huge step forward. It is the first time charities have been included in s33, and for the charity tax group this is the result of a very long-standing campaign to give charities are fairer VAT regime. It creates a more level playing field between charities and the public bodies working together for the same end. I hope that we will see further progress in years to come.


Sandy Bhogal, Head of Tax, Mayer Brown

I cannot recall the last time I saw such an ill-considered proposal as the diverted profits tax (DPT). It is also a strange way to legislate, given that the OECD specifically wanted members to avoid unilateral action for fear it would undermine the BEPS process. The run up to elections is always a difficult time for policy makers, as they try to balance the desire to appeal to the masses with the long term benefits of sensible tax policy. One could argue that the DPT is intended to encourage entities to incorporate in the UK and take advantage of the 20% corporation tax rate. But that assumes that the tax will not contravene any number of EU laws and indeed can be distinguished from typical forms of direct tax and therefore not cause issues with existing tax treaties. Something that will no doubt be clarified in due course. However, the legislation itself needs a lot of work, not least to clarify what an ‘avoided PE’ is and how this interacts with the intended carve outs.

There is also legislation to restrict the proportion of taxable profit arising to ‘banking companies’ for an accounting period that can be offset by carried-forward reliefs to 50%. This restriction will apply to carried-forward trading losses, non-trading loan relationship deficits and management expenses. The legislation will take effect from 1 April 2015 (subject to anti-avoidance and anti-forestalling provisions summarised below), but only to reliefs accruing before that date. Exemptions apply for losses arising in a start-up period (broadly, a period of 5 years beginning with the day on which a company first begins to carry on a ‘relevant regulated activity’, subject to specific rules for group companies) or before a company commences a ‘relevant regulated activity’.

In broad terms, a ‘banking company’ is a UK resident company, or non-UK resident company carrying on a trade in the United Kingdom through a permanent establishment in the United Kingdom, that is an ‘authorised person’ under the Financial Services and Markets Act 2000 and that also carries on certain ‘regulated activities’ (such as accepting deposits). However, certain entities are excluded from the restriction, including insurance companies and insurance special purpose vehicles, investment trusts, asset managers and commodities traders. Curiously, this is wider than the bank definitions in the banking levy and bankers payroll tax legislation (and indeed the Code of Practice for Banks). Again, it is inevitable that the banks would be a target for further taxation in the run up to an election, but the bigger issue may be the need to revalue deferred tax assets for accounting and regulatory purposes (particularly for US parented organisations), in addition to possible changes to long term tax management policies.

Ben Eaton, UK tax partner, Goodwin Procter

In labelling some payments to investment managers as ‘disguised fee income’, this is the latest example in a trend on the part of HMRC to label many perfectly commercial arrangements as some other type of arrangement ‘in disguise’ in order to collect a greater amount of tax. If this approach continues to become more widespread it will sow further uncertainty into our already over-complex tax regime.

While the government’s confirmation that this legislation isn’t targeted at carry and other performance based arrangements is welcome, it appears from the draft legislation that its scope extends to payments that would not normally be viewed, from a commercial perspective, as fees.

Suzanne Hill (Senior Associate) and Kerry Westwell (Of Counsel) Hogan Lovells

The rules on disguised fee income are somewhat in disguise themselves. Despite their apparent title they appear to represent a new starting point for taxation of investment managers. As seems to be the trend with tax legislation of late, they consist of a very broad charging provision, with targeted exemptions. Notwithstanding that the trailered exemption for carried interest is there, it is narrower than may have been anticipated, imposing HMRC’s view of an acceptable carry hurdle on the market. Performance related returns will only fall within the exemption if the hurdle consists of a preferred return equivalent to at least 6% compound interest. We are aware of a number of funds with hurdles structured in a different way for commercial reasons which would seem to fall outside the exemption. It will be interesting to see whether any guidance is published which deals with these concerns.

Fabrizio Lolliri (European director of transfer pricing) and Rupert Shiers (tax partner), Hogan Lovells

The diverted profit tax (DPT) appears to be an early response to BEPS action points 7 to 10 seeking to align profit with economic and commercial substance. The DPT will apply (with some exceptions) to all transactions between (broadly) related parties, resulting in a substantial tax advantage (there is an ‘80% payment’ test). Where the ‘insufficient economic substance conditions’ are met, any transfer pricing adjustment will be taxed at 25% and not 20%. In addition, the legislation allows an adjustment beyond the arm’s length adjustment in some circumstances.

Much of the analysis underpinning the legislation may be simply an application of the arm’s length test. It is concerning that it specifically allows adjustments going beyond arm’s length. The approach to significant people functions in s 7(6) appears intended to follow HMRC’s view of the arm’s length principle. However, it must also be considered closely to check it is not too restrictive. And the comparison of tax and non-tax benefits of citing an activity outside the UK (ss 7(4) and 7(5)) is potentially a complex and difficult exercise, which could put significant burdens on a group just looking to protect its arm’s length pricing.

Chris Morgan, head of tax policy, KPMG in the UK

Diverted profits are like the proverbial elephant; you know it when you see it but it’s difficult to define. The draft legislation is a 70 page plus document that attempts to define this ‘elephant’ as it were. In reality what is actually a fairly narrow measure by the chancellor, the diverted profits tax has two broadly defined aims:

The first of these looks to prevent an overseas entity with substantial UK activities deliberately avoiding establishing a UK taxable presence. For firms purposely structured in this way, this will certainly be a worry and could result in them considering changes to their structure to create a permanent establishment in the UK which will pay UK corporation tax (at 21% currently) rather than pay the 25% rate.

The second applies to UK companies or UK permanent establishments which reduce their corporation tax by making payments to related parties with an effective lower tax rate – for example by paying royalties which end up in a low tax country. However, this only applies if the payment would not have been made at all were it not for the tax benefit in doing so. To this extent, the rules appear to be aimed at companies which have transferred assets out of the UK in order to then charge them back in.

HMRC is effectively able to make an estimated assessment and the company has to then pay the tax within 30 days. After this there is a one year review period to determine if the assessment was correct and only then can the company appeal to the courts in the normal way. This process – pay now, argue later - together with the 25% rate, appears to be aimed at changing companies’ behaviour. A concern is, does this give too much discretion to HMRC?

Notwithstanding the government’s reasons for wanting to do this, the UK has, in some ways, jumped the gun in terms of the BEPS project. Our latest Tax Competitiveness Survey shows that companies value ‘stability’ and ‘simplicity’ above all else in terms of tax legislation. The diverted profits tax rules tick neither box. However, in a small nod to simplification, these rules do not apply to companies whose UK revenue is less than £10m per year.

Overall it would have been better to wait for the outcome of the BEPS process in a year’s time.