The spring budget includes a number of announcements that relate to taxation, the most significant of which is a “roadmap” for UK corporate taxation through 2020.
On 16 March, the UK Chancellor of the Exchequer made a number of announcements relating to taxation, the most significant of which was a “roadmap” for UK corporate taxation through 2020. The changes that relate to interest deductibility, royalties, and hybrid rules collectively reflect the overall objective to reduce the erosion of the UK corporate tax base.
FURTHER REDUCTION IN CORPORATION TAX RATE
Starting April 2017, the corporation tax rate is set to reduce to 19%, with a further reduction to 17% beginning in 2020; the United Kingdom would then have the lowest headline rate of corporate tax in the Group of Twenty (G20).
UK corporate groups that claim more than £2 million of interest deductions annually will have a new restriction on interest deductibility for corporation tax. The deduction will be capped at 30% of the group Earnings Before Interest, Taxes, Depreciation, and Amortization (EBITDA), with some relief for earnings volatility and specific investments in public infrastructure assets. Highly leveraged business models may additionally be entitled to relief based on a worldwide group test of net income to EBITDA ratio. This restriction will apply starting April 2017. The highly complex worldwide debt cap rules will also be repealed from this date.
This represents a significant shift from previous provisions, which limited deductions in excess of what could be commercially justified on an arm’s length basis.
CORPORATION TAX LOSS RELIEF
The changes make corporate loss relief more flexible but reduce the annual quantum available.
For trading losses arising after April 2017, companies will be able to carry forward such losses and use them against all income and gains of an entire group (currently, carried forward trading losses can only be used against profits from the same trade and in the same company).
However, for UK groups with more than £5 million of taxable profits, loss relief will be restricted beginning April 2017 to 50% of the group taxable profits in excess of £5 million. Banks will be even more restricted, with a limit of 25% of the excess in relation to pre-2015 tax losses carried forward.
ROYALTIES: WITHHOLDING TAX
UK withholding tax (currently at 20%) will now apply to a wider range of intellectual property payments, including payments in respect of the use of intangible assets, such as trademarks and brand names (until now, the scope of UK withholding tax was limited and applied only to payments with respect to copyright, patents, and certain design rights). Taking effect after the date on which the Finance Bill 2016 receives royal assent, such withholding would apply to payments to nonresidents, unless a nonresident qualifies for an exemption or reduction under an applicable double tax treaty between the jurisdiction of his or her residence and the United Kingdom or under an EU Interest and Royalties Directive.
Taking effect on 17 March 2016, a new domestic law treaty abuse rule will be introduced to prevent diversion of payments to tax havens via conduit arrangements where conduit vehicles are located in countries that have double tax treaties with the United Kingdom and provide for relief from withholding tax.
For payments made on or after the date on which the Finance Bill 2016 receives royal assent, UK withholding tax will apply to royalty payments connected with the activities of UK permanent establishments (including certain “avoided” permanent establishments that result from the application of the diverted profits tax) of non-UK resident companies, even if paid by a non-UK resident.
There will be an extension to the antiavoidance provisions in this area. The provisions target cross-border arrangements where either one party gets a tax deduction for a payment while the other party does not have a taxable receipt or where there is more than one tax deduction for the same expense. The particular focus of the extension here is the use of permanent establishments by such international groups.
CAPITAL GAINS TAX
The higher capital gains tax rate will be reduced from 28% to 20%, and the basic rate will be reduced from 18% to 10% beginning 6 April 2016. The exception is for the capital gains tax rate payable on disposals of residential property and with respect to carried interest, which will be subject to an 8% surcharge to compensate for the reduction in the headline rate.
Entrepreneurs’ relief will be extended to longer-term external investors that invest in ordinary shares of unlisted trading companies. The exemption (subject to a separate lifetime cap of £10 million) will apply to gains realised by individuals who acquired newly issued shares on or after 17 March 2016, that have been held for a continual period of at least three years starting from 6 April 2016.
Rules for entrepreneurs’ relief will be clarified to ensure that where a company carries on trading activities as part of a joint venture or partnership, the company’s owners could also benefit from entrepreneurs’ relief.
Beginning April 2018, termination payments exceeding £30,000 that are subject to income tax will also now be subject to employers’ national insurance contributions. New legislation is expected to be introduced to remove foreign service relief and to clarify that all payments in lieu of notice and certain damages payments made on termination of employment will be taxed as employment income.
Following a new change, beginning April 2018, self-employed people will no longer be required to pay Class 2 national insurance contributions on their profits in excess of £5,965. Class 4 national insurance contributions will, however, remain payable.
To reflect the recent changes in the dividend taxation, beginning 6 April 2016, the tax rate for loans to participators in the context of closely controlled companies will be increased from 25% to 32.5% to mirror the higher dividend tax rate.
New legislation will be introduced in Finance Bill 2016 that imposes a lifetime cap of £100,000 on the capital gains tax relief with respect to disposals of employee shareholder shares. The measure will apply to employee shareholder agreements entered into after midnight on 16 March 2016.
STAMP DUTY LAND TAX
The SDLT rate for both “second home” residential transactions and large commercial transactions have experienced significant increases. These changes apply on 1 April 2016 for residential and on 17 March 2016 for commercial transactions (with limited relief for transactions under contract before those dates).
Residential rates of tax will have an additional 3% surcharge applying to acquiring a “second home”. The precise meaning of this term is complex and depends on existing UK/non-UK residential property held, marital status, inheritances, and fractional ownership of residential property, among other elements.
For low-value commercial transactions, the rates will reduce and the tax will become graduated. However, the rate will increase to 5% for consideration paid in excess of £250,000. In addition, the cost of occupation will also increase for tenants, because the tax rate for leases has doubled from 1% to 2%, where the net present value of the rent under a lease exceeds £5 million (the 2% rate applying to the excess).
OTHER MATERIAL ANNOUNCEMENTS
- Commercial property business rates—Such rates will experience significant additional relief for relatively low rateable values (c. £6,000–£51,000).
- Property developers—Antiavoidance provisions will take effect that target use of offshore development of UK property.
- Performance-related returns of fund managers—New rules will be finalized that intend to ensure that carried interest is taxed as capital gains only when a fund undertakes long-term investment activity covering investment holding periods of three years or longer.
- Petroleum revenue tax—This tax will be reduced from 35% to 0% for all chargeable periods ending after 31 December 2015. In addition, the supplementary charge on oil and gas extraction will be reduced from 20% to 10% and will apply for accounting periods starting on or after 1 January 2016.
- Substantial shareholding exemption—A forthcoming review will determine whether the exemption needs to be simplified to improve its competitiveness in the changing business tax landscape.
- Double tax treaty passport scheme—An upcoming consultation and review of the scheme (originally introduced in 2010) will aim to establish if the scheme continues to meet the needs of UK borrowers and foreign investors.