As a result of infraction notices from the European Commission, HMRC is consulting on the reform of TCGA 1992 s 13 (gains of non-resident companies) and ITA 2007 Part 13 Chapter 2 (transfer of assets abroad). Its proposal is to align the available exclusions so that neither regime applies where the asset is used (in the case of s 13) or the transfer is effected (in the case of Chapter 2) for the purposes of economically significant activities carried on outside the UK or the arrangements concerning the asset or the transfer pass a motive test.
Nigel Doran considers HMRC's attempts to reform rules relating to gains of non-resident companies, while Jeremy Woolf (below) examines whether this will help HMRC resist pressure from Europe
On 30 July 2012, HMRC issued a consultation document on the proposed reform of the regimes for gains of non-resident close companies and transfers of assets abroad.
When UK tax law is changed to make it compatible with the fundamental freedoms enshrined in the EU Treaty, this is often as a result of prolonged litigation.
It is, therefore, encouraging that, in this case, the reform comes, without any litigation, in response to infraction notices issued by the European Commission.
TCGA 1992 s 13 applies to chargeable gains arising to a non-UK resident company which would be a close company if it were UK resident. The part of each gain attributable to the company’s UK resident participators is apportioned to them pro rata to their interests as participators.
If the part of the gain apportioned to a and connected persons one-tenth of the gain, then, unless an exception applies, the participator is treated as if the part apportioned to him had arisen to him and, accordingly, he will be liable to CGT on it.
Section 13 does not apply to gains:
Section 13 includes provisions protecting it from avoidance, giving limited relief for the company’s losses and tempering the section’s effect where there would otherwise be double taxation.
reform of s 13: If the draft legislation in the consultation document is enacted as presently drafted, s 13 will not apply, as from
6 April 2012, to gains arising to the company on the disposal of an asset:
‘Economically significant activities’ are activities (not including an investment business) which:
The existing exception for assets used solely for non-UK trade purposes will be extended to assets which, broadly, are, throughout a qualifying period, commercially let furnished holiday accommodation situated outside the UK.
A person to whom part of a chargeable gain or allowable loss would (apart from the proposed reform) arise on in the tax year 2012/13 can elect for s 13 to apply in its unamended form.
Comment: It is difficult to see that the new exclusion for economically significant activities will be much wider than the existing exclusion for non-UK trades. This appears to be confirmed by the TIA. It is, therefore, disappointing that investment businesses do not qualify for the new exclusion.
The consultation document suggests that active management of investments may qualify but, if so, it is poorly reflected in the draft legislation.
These points are developed in the context of non-compatibility with EU law in Jeremy Woolf’s comment, above. The concept of ‘economically significant activities’ derives from the EU concept of ‘genuine economic activities’ in relation to freedom of establishment. It has informed CFC reform and now seems likely to become a developing theme in tax law reform.
By contrast, the new purpose test is welcome. However, it suffers from the same drawback as most other TAARs in that it is of no assistance to a taxpayer who merely improves his tax position (compared with a notional alternative transaction) in a way envisaged by the legislation and for whom that improvement was important, rather than merely incidental.
Accordingly, the new exclusion would be much enhanced if a taxpayer who failed the purpose test was nevertheless excluded from s 13 if the arrangement under which the non-resident company acquired and disposed of the asset was not designed to conflict with the purpose of the CGT legislation.
A course of action which saves tax in a way which accords with the statutory purpose should not be struck down by an anti-avoidance provision merely on the grounds of the taxpayer’s state of mind. There is no avoidance (see IRC v Willoughby [1997] STC 995).
ITA 2007 Part 13 Chapter 2 imposes charges to income tax for the purpose of preventing income tax avoidance, by means of relevant transfers, by individuals (defined to include their spouses or civil partners) (‘individual transferors’) who are ordinarily resident in the UK. The charges operate by attributing to such individuals the income of a person abroad if it is connected with a relevant transfer or an associated operation. A ‘person abroad’ is a person who is resident, treated as resident or domiciled outside the UK.
A transfer is a ‘relevant transfer’ if it is a transfer of assets and, as a result of the transfer or one or more associated operations (or both), income becomes payable to a person abroad.
Income is treated as arising to an individual transferor if:
Income tax is charged on the individual under Chapter 2, subject to any exemption or relief, on the income treated as arising to him. Special rules apply to non-UK domiciled individuals to whom the remittance basis applies.
Similar rules apply to non-transferors ordinarily resident in the UK who receive a benefit provided out of assets as a result of a relevant transfer or one or more associated operations.
An individual is not liable to income tax under Chapter 2 if:
Proposed reform of Chapter 2: If the draft legislation in the consultation document is enacted as presently drafted, a UK resident body corporate that is incorporated outside the UK will, as from 6 April 2012, no longer be treated as resident outside the UK for the purposes of the ‘person abroad’ definition.
If a relevant associated operation is on terms and is effected, on or after 6 April 2012, for the purposes of economically significant activities carried on outside the UK, income will be left out of account for Chapter 2 purposes so far as it is attributable to the transfer or operation. It does not matter if the transfer is motivated by tax considerations.
‘Economically significant activities’ is defined as it is for the 13 but substituting ‘activities’ for ‘the size and nature of the permanent establishment’.
Comment: It is difficult to see that the new exclusion for economically significant activities will be much wider than the existing exclusion for genuine commercial transactions, though (significantly) it does not have the ‘not more than incidentally designed for tax’ condition.
Nigel Doran, Consultant, Macfarlanes
Jeremy Woolf
Barrister, Pump Court Tax Chambers
HMRC has produced a consultation document with proposals to reform TCGA 1992 s 13 and ITA 2007 Part 13 Chapter 2. While the current proposals will certainly make UK law more compliant with EU law, they do not go far enough to make it fully compliant.
The main proposal is the introduction of an exemption for profits from ‘economically significant activities carried on outside the United Kingdom’. Such activities must be carried out on a ‘commercial basis’ and do not include a ‘business of making investments’.
The whole tenor of the consultation document suggests that it has been written with a focus on the freedom of establishment in Article 49 of the Treaty. Even viewed from that perspective, the proposed exemption is too prescriptive since:
The foregoing comments have focused on Article 49 of the Treaty. However, at least if the provisions are subject to no more than a 10% participation exemption, it is clear from Ministre du Budget v Accor Case C-310/ [2012] 09 STC 439 that the freedom to move capital in Article 63 of the Treaty is also potentially engaged. It is possible that the provisions may also remain non-compliant for that reason.
It is unfortunate that no attempt has so far been made to more generally review these provisions, which can impose disproportionate tax charges. One illustration is the lack of adequate limitations on the charge under ITA 2007 s 727. Another is that profits can be taxed on shareholders under the provisions of Chapter 2 even though they have been subject to UK income tax or corporation tax in the company’s hands. Given the higher rates of tax on individuals, the existence of just ameliorates, and does not eliminate, the discriminatory consequences of the provisions. TCGA 1992 s 13 can also give rise to disproportionate liabilities on shareholders, especially when historic gains are attributed to a shareholder who has only recently acquired a holding. Unless changes are made to more generally remove the potentially arbitrary, discriminatory and disproportionate features of the legislation, it is difficult to see how the provisions can become totally compliant.
As a result of infraction notices from the European Commission, HMRC is consulting on the reform of TCGA 1992 s 13 (gains of non-resident companies) and ITA 2007 Part 13 Chapter 2 (transfer of assets abroad). Its proposal is to align the available exclusions so that neither regime applies where the asset is used (in the case of s 13) or the transfer is effected (in the case of Chapter 2) for the purposes of economically significant activities carried on outside the UK or the arrangements concerning the asset or the transfer pass a motive test.
Nigel Doran considers HMRC's attempts to reform rules relating to gains of non-resident companies, while Jeremy Woolf (below) examines whether this will help HMRC resist pressure from Europe
On 30 July 2012, HMRC issued a consultation document on the proposed reform of the regimes for gains of non-resident close companies and transfers of assets abroad.
When UK tax law is changed to make it compatible with the fundamental freedoms enshrined in the EU Treaty, this is often as a result of prolonged litigation.
It is, therefore, encouraging that, in this case, the reform comes, without any litigation, in response to infraction notices issued by the European Commission.
TCGA 1992 s 13 applies to chargeable gains arising to a non-UK resident company which would be a close company if it were UK resident. The part of each gain attributable to the company’s UK resident participators is apportioned to them pro rata to their interests as participators.
If the part of the gain apportioned to a and connected persons one-tenth of the gain, then, unless an exception applies, the participator is treated as if the part apportioned to him had arisen to him and, accordingly, he will be liable to CGT on it.
Section 13 does not apply to gains:
Section 13 includes provisions protecting it from avoidance, giving limited relief for the company’s losses and tempering the section’s effect where there would otherwise be double taxation.
reform of s 13: If the draft legislation in the consultation document is enacted as presently drafted, s 13 will not apply, as from
6 April 2012, to gains arising to the company on the disposal of an asset:
‘Economically significant activities’ are activities (not including an investment business) which:
The existing exception for assets used solely for non-UK trade purposes will be extended to assets which, broadly, are, throughout a qualifying period, commercially let furnished holiday accommodation situated outside the UK.
A person to whom part of a chargeable gain or allowable loss would (apart from the proposed reform) arise on in the tax year 2012/13 can elect for s 13 to apply in its unamended form.
Comment: It is difficult to see that the new exclusion for economically significant activities will be much wider than the existing exclusion for non-UK trades. This appears to be confirmed by the TIA. It is, therefore, disappointing that investment businesses do not qualify for the new exclusion.
The consultation document suggests that active management of investments may qualify but, if so, it is poorly reflected in the draft legislation.
These points are developed in the context of non-compatibility with EU law in Jeremy Woolf’s comment, above. The concept of ‘economically significant activities’ derives from the EU concept of ‘genuine economic activities’ in relation to freedom of establishment. It has informed CFC reform and now seems likely to become a developing theme in tax law reform.
By contrast, the new purpose test is welcome. However, it suffers from the same drawback as most other TAARs in that it is of no assistance to a taxpayer who merely improves his tax position (compared with a notional alternative transaction) in a way envisaged by the legislation and for whom that improvement was important, rather than merely incidental.
Accordingly, the new exclusion would be much enhanced if a taxpayer who failed the purpose test was nevertheless excluded from s 13 if the arrangement under which the non-resident company acquired and disposed of the asset was not designed to conflict with the purpose of the CGT legislation.
A course of action which saves tax in a way which accords with the statutory purpose should not be struck down by an anti-avoidance provision merely on the grounds of the taxpayer’s state of mind. There is no avoidance (see IRC v Willoughby [1997] STC 995).
ITA 2007 Part 13 Chapter 2 imposes charges to income tax for the purpose of preventing income tax avoidance, by means of relevant transfers, by individuals (defined to include their spouses or civil partners) (‘individual transferors’) who are ordinarily resident in the UK. The charges operate by attributing to such individuals the income of a person abroad if it is connected with a relevant transfer or an associated operation. A ‘person abroad’ is a person who is resident, treated as resident or domiciled outside the UK.
A transfer is a ‘relevant transfer’ if it is a transfer of assets and, as a result of the transfer or one or more associated operations (or both), income becomes payable to a person abroad.
Income is treated as arising to an individual transferor if:
Income tax is charged on the individual under Chapter 2, subject to any exemption or relief, on the income treated as arising to him. Special rules apply to non-UK domiciled individuals to whom the remittance basis applies.
Similar rules apply to non-transferors ordinarily resident in the UK who receive a benefit provided out of assets as a result of a relevant transfer or one or more associated operations.
An individual is not liable to income tax under Chapter 2 if:
Proposed reform of Chapter 2: If the draft legislation in the consultation document is enacted as presently drafted, a UK resident body corporate that is incorporated outside the UK will, as from 6 April 2012, no longer be treated as resident outside the UK for the purposes of the ‘person abroad’ definition.
If a relevant associated operation is on terms and is effected, on or after 6 April 2012, for the purposes of economically significant activities carried on outside the UK, income will be left out of account for Chapter 2 purposes so far as it is attributable to the transfer or operation. It does not matter if the transfer is motivated by tax considerations.
‘Economically significant activities’ is defined as it is for the 13 but substituting ‘activities’ for ‘the size and nature of the permanent establishment’.
Comment: It is difficult to see that the new exclusion for economically significant activities will be much wider than the existing exclusion for genuine commercial transactions, though (significantly) it does not have the ‘not more than incidentally designed for tax’ condition.
Nigel Doran, Consultant, Macfarlanes
Jeremy Woolf
Barrister, Pump Court Tax Chambers
HMRC has produced a consultation document with proposals to reform TCGA 1992 s 13 and ITA 2007 Part 13 Chapter 2. While the current proposals will certainly make UK law more compliant with EU law, they do not go far enough to make it fully compliant.
The main proposal is the introduction of an exemption for profits from ‘economically significant activities carried on outside the United Kingdom’. Such activities must be carried out on a ‘commercial basis’ and do not include a ‘business of making investments’.
The whole tenor of the consultation document suggests that it has been written with a focus on the freedom of establishment in Article 49 of the Treaty. Even viewed from that perspective, the proposed exemption is too prescriptive since:
The foregoing comments have focused on Article 49 of the Treaty. However, at least if the provisions are subject to no more than a 10% participation exemption, it is clear from Ministre du Budget v Accor Case C-310/ [2012] 09 STC 439 that the freedom to move capital in Article 63 of the Treaty is also potentially engaged. It is possible that the provisions may also remain non-compliant for that reason.
It is unfortunate that no attempt has so far been made to more generally review these provisions, which can impose disproportionate tax charges. One illustration is the lack of adequate limitations on the charge under ITA 2007 s 727. Another is that profits can be taxed on shareholders under the provisions of Chapter 2 even though they have been subject to UK income tax or corporation tax in the company’s hands. Given the higher rates of tax on individuals, the existence of just ameliorates, and does not eliminate, the discriminatory consequences of the provisions. TCGA 1992 s 13 can also give rise to disproportionate liabilities on shareholders, especially when historic gains are attributed to a shareholder who has only recently acquired a holding. Unless changes are made to more generally remove the potentially arbitrary, discriminatory and disproportionate features of the legislation, it is difficult to see how the provisions can become totally compliant.
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