This year’s Finance Bill, which is expected to become law as the Finance Act 2014 in July, introduces a new anti-avoidance measure, targeted at businesses operating through a group structure where there is, in substance, a significant “payment” of profits from one company to another. The measure, potentially of wide application, is set out in new section 1305A, which will be inserted into the Corporation Tax Act 2009. Set out below is a summary of how the new rule works, and how it might apply to certain, what might up to now have been seen as commercial, arrangements.
A new section 1305A will be inserted into the Corporation Tax Act 2009 and will apply where:
- two companies (A and B) are part of the same “group”; and
- A and B are party to “arrangements”; which
- result, in substance, in A (directly or indirectly) making a payment to B of “all or a significant part” of A’s profits (or the profits of another group company); and
- one of the main purposes of the arrangements is to secure a “tax advantage” (and not necessarily for A or B).
Section 1305A, as currently drafted, is capable of wide application because “group”, “arrangements” and “tax advantage” are each also given a wide meaning. Although the securing of a tax advantage (which includes a “reduction” in tax paid or payable) must be a main purpose of the arrangements, in the current climate this may not be a high hurdle for HMRC to overcome.
Although it might be thought that the requirement for a “payment” of profit from A to B might limit the ambit of section 1305A:
- the section is headed “Avoidance schemes involving the transfer [our emphasis] of corporate profits”; and
- the arrangements which are caught are those that “result in what is, in substance [our emphasis], a payment (directly or indirectly) from A to B of … a significant part [not defined] of A’s profits”. In our view this may equate a transfer with a payment.
If section 1305A applies, A’s profits for corporation tax purposes must be recalculated as though the arrangements leading to the profit transfer had not occurred.
Unlike some anti-avoidance provisions, section 1305A does not contain a “commercial” let out. If the arrangements produce a transfer of profits, which in turn causes a reduction in tax take, the arrangements may be ignored for tax purposes.
It is worth noting that although the stated “primary aim” of new section 1305A is to prevent the use of certain marketed schemes to circumvent the operation of another anti-avoidance rule introduced with effect from December 2013 (the obtaining of a UK tax advantage through use of a “total return swap”), it is explicitly stated that section 1305A is not limited to such cases.
In practice, draft guidance on the operation of section 1305A, recently published by HMRC, indicates that they will not normally challenge arrangements if:
- they are ordinary commercial arrangements; and
- they are also arrangements of a kind that are usually entered into by companies operating in the same type of business.
For example, HMRC states that intra- group reinsurance, affected as part of “ordinary commercial arrangements”, would “not normally” fall within the scope of section 1305A. An example given by HMRC of “ordinary commercial” reinsurance is where the profitability of the ceding company is taken into account in determining the premium payable.
What have, up to now, been seen as commercial arrangements that might be under threat include:
- the aggressive use of reinsurance;
- the use of offshore (normally tax haven or low tax jurisdiction) group companies;
- aggressive finance and group treasury arrangements;
- the placing of profitable business in low tax or tax exempt group companies
- profit related royalties and transfer payments.
It is possible that HMRC may be tempted to use section 1305A to attack the tax arrangements, recently much publicised, entered into by certain US multi-national retailers with a substantial UK presence.
The draft guidance, and certainly not by accident, gives the example of an online retailer which concludes contracts with UK customers through a non-UK resident company. The conclusion on such an arrangement leaves many questions unanswered – unhelpfully HMRC merely confirm that such arrangement will be caught by section 1305A if it involves a “transfer of profits”.
Next steps and commencement
It may be prudent to consider group tax planning arrangements that might fall within section 1305A if they are not both commercially driven and industry standard.
We will continue to monitor section 1305A as it progresses through Parliament as it may (although we consider it unlikely) be subject to amendment. We would also expect further revised guidance from HMRC on its intended scope.
Once enacted, section 1305A will have retrospective effect from 19 March 2014. “Arrangements” that are within scope and which were entered into prior to that date, will be caught from that date.