In his first (and last) Autumn Statement, the Chancellor of the Exchequer, Philip Hammond, announced a number of tax measures affecting the financial services industry, although many of these changes had been the subject of earlier announcements or recent consultation.
Corporation Tax − General
It was confirmed that the rate of corporation tax will be reduced to 17% by 2020. However, as a product of the OECD’s Base Erosion and Profit Sharing (BEPS) initiative, and broadly in line with the proposed EU anti-tax avoidance directive, the government will also introduce a cap on the amount of tax relief available in respect of interest deductions on corporate debt, therefore broadening the taxable base of companies. With effect from 1 April 2017, relief will generally be restricted to 30% of UK taxable earnings (subject to an optional group ratio test that may permit additional deductions by reference to group EBITDA). There will be a de minimis threshold limit of £2m net UK interest expense before the rules will restrict deductibility. This measure could have a significant impact on post-tax returns of trading groups – in particular, in the private equity, infrastructure and real estate sector. In addition, restrictions on the carry forward of losses are to be introduced from 1st April. Where profits exceed £5m, only 50% of the losses will be capable of offset each year.
There was also an announcement that consideration is being given to bringing all non-UK resident companies receiving taxable income from the UK into the UK corporation tax regime. In 2017, the government will examine whether and how all companies (whether UK-resident or not) should be subject to the corporation tax rules, including the limitation of corporate interest expense deductions referred to above.
An unexpected offshore funds change was announced in relation to the tax treatment of offshore "reporting funds”. Existing UK tax legislation allows funds established outside the UK to elect to be reporting funds, either as a whole or in respect of a particular class of shares. This enables UK taxpayers – especially high-net-worth individuals and certain UK-authorised funds – to obtain a tax benefit by obtaining capital gains tax treatment upon the redemption of their interest in the fund. However, the consequence of being a reporting fund is that the annual net income of the fund must be reported to UK investors for inclusion in their tax returns.
In the past, reportable income could be reduced by any performance fees charged by the investment manager (as well as any management fee). This has had a significant impact, especially for alternative funds, and has sometimes meant that the fund had no reportable income in a given year. However, the government has announced that this will change from April 2017, when the performance fee will cease to be tax deductible from a fund’s reportable income, and will thereafter be deductible only from the proceeds of sale upon a redemption of an investor’s interest in the fund.
This change will: (i) move forward the point of taxation for UK investors; and (ii) increase the amount of income tax incurred at higher rates for individuals (although reducing the ultimate capital gain on redemption of their interest in the fund). Since capital gains are generally taxed at a lower rate than income for individuals, this is an unwelcome change, especially for high-net-worth individuals.
The government also announced that it will modernise the tax rules applicable to dividend distributions to corporate investors in UK-authorised investment funds. This is intended to allow tax-exempt investors (e.g., pension funds) to obtain credit for tax incurred by underlying authorised funds, and is therefore a positive change for such investors.
The government also confirmed that it will end the permanency of non-domiciled tax status. With effect from 1 April 2017, non-domiciled individuals will be deemed UK-domiciled for tax purposes if they have been resident for 15 of the past 20 years or if they were born with a UK domicile of origin. However, such individuals who have (or who establish) a non-UK resident trust before they are deemed domiciled in the UK will not be taxed on income and gains arising outside the UK and retained in the trust. Accordingly, such individuals who do not yet have such a trust might wish to consider establishing one prior to the new rules affecting their domicile status..