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Sophie Dworetzsky, Christopher Groves, Sarah Cormack and Charlie Tee work in the tax department at Withers LLP, London.
Panacea or a palliative -- is the UK Budget a cure for the country's current economic malaise?
“Britain is moving to low and competitive taxes. But we should insist people and businesses pay those taxes, not aggressively avoid them or evade them.”
With this statement, the Chancellor set the theme for his fourth Budget, limited cuts in taxes, mostly in the future, and an ever increasing focus on avoidance and evasion to make sure that the tax gap is narrowed.
In contrast to the 2012 Budget, this Budget had largely been kept under wraps. However, it was clear that the Chancellor was going to have relatively little room for manoeuvre, with little funding available for tax cuts and no appetite for raising taxes. The question that remained was whether there would be any limited scope high profile measures that would have a disproportionate effect on high net worth individuals?
In the end, the Budget was extremely light on substantive change, perhaps reflecting the deadlock within the Coalition, and with many of the announcements being made simply confirming policy that has already been subject to extensive consultation.
The highlights from the Budget have been examined below.
Probably the strongest theme in this year's Budget is the war on avoidance. This is hardly surprising given the ongoing climate of austerity and the downgrading of the UK's credit rating. Whether the amounts of revenue lost bandied about -- ranging from anywhere between GBP one billion pounds and several billion pounds -- are even remotely accurate or realistic, what is evident is that many of the legislative measures, both on the domestic and international scale, have this as their focus.
A repeated refrain in the Budget papers is the desire to modify the behaviour of taxpayers, both with regard to evasion and the unacceptable side of avoidance. HMRC will approach this task from a number of different directions.
A document entitled 'No safe havens' is also published along with the Budget, which sets out HMRC's strategy to combat offshore tax evasion. With the announcement of new 'FATCA’ style agreements with Jersey, Guernsey and the Isle of Man and the existing agreements with Switzerland and Liechtenstein, the UK government is looking to open up access to information held in the offshore financial centres. It is clear that these agreements are only the start of a tri-partite process which:
• gives non-compliant individuals a limited opportunity to bring their affairs up to date (through the Liechtenstein Disclosure Facility, the Swiss Agreement and in future similar disclosure facilities for the Crown Dependencies);
• increases the transparency of offshore jurisdictions to HMRC (through existing tax information exchange agreements, the new agreements announced and agreements to be concluded with other jurisdictions); and
• increases significantly the penalties for non-compliance.
The message is clear: there is a limited opportunity to come clean, but from 2017, the shutters will come down and the gloves will come off. In the words of Daniel Day Lewis in The Last of the Mohicans, HMRC's mantra is very much “No matter what occurs! I will find you. No matter how long it takes, no matter how far, I will find you”.
The use of data in this area is also key to HMRC's policy. Mike Wells, head of Risk and Intelligence for HMRC, noted last year that HMRC holds more data than the British Library. With the new Tax Information Exchange Agreements, the amount of available data will further increase. However, with the announcement of increased investment in HMRC in November, both in terms of individuals and infrastructure (including the 'Connect’ computer system), HMRC will increasingly come to terms with this data and use it to root out evasion.
While these measures are aimed at those individuals not paying the correct amount of tax, all taxpayers will need to get used to the idea of the increased levels of disclosure that will be made in respect of their assets, wherever held. This is very much part of HMRC's strategy of modifying future behaviour as much as uncovering past misdemeanours.
The document titled 'Levelling the tax playing field’ sets out HMRC's strategy and approach to tackling tax compliance generally. This document emphasises the commitment to move beyond evasion and, to directly tackle the market for tax avoidance schemes, again seeking to change behaviour.
HMRC makes its strategy clear, saying “Promoters and avoiders should be clear that we are relentless in pursuing those who bend or break the rules and have the resources to do so”. It will continue the policy of making limited settlement opportunities available for particular schemes, but principally introducing targeted anti-avoidance legislation to counter abusive schemes and assiduously pursuing the users of schemes through the courts.
The Chancellor himself announced that promoters of tax avoidance schemes would be named and shamed, however what effect this will have, and whether some promoters will simply regard it as helpful marketing, remains to be seen.
HMRC will also have a number of specific tools at its disposal.
GAAR has been the subject matter of many a debate and discussion since it was first announced in 2010 The key point however, is that as of Royal Assent, which is expected to be sometime in June or July this year, the GAAR will come into effect. It is a general anti-abuse rule, which effectively sits above the existing anti-avoidance legislation. However, the existing legislation remains relevant, as of course do additional specific anti-avoidance measures announced and/or introduced in this Budget. It is widely drafted and has a technically wide ambit, but it is worth remembering that its architect, Graham Aaronson QC, envisaged it as being specifically aimed at 'egregious' cases. Provided this remains its target, it will be a positive piece of legislation and give enhanced credibility to the UK business and tax environment. The concern is, as ever, that it is an exciting new tool that HMRC may wield beyond its intended scope. Additionally, it is to be accompanied by some guidance, which taxpayers will have to rely on. The guidance however is not legislation and this does leave something of a democratic black hole in the heart of GAAR. Despite these concerns, provided the GAAR Advisory Panel, which will be composed of a varied selection of high profile tax practitioners and campaigners, simply use it simply to combat clearly offensive, aggressive and unacceptable planning, it will be helpful.
The absence of a clearance procedure is a shame, and means that taxpayers and their advisers are going to have to ensure they take a long-term view of planning/arrangements, seeking to ensure not only that they are technically effective, but seeking to discern whether they may fall foul of what is considered acceptable planning, and therefore subject to GAAR, in the medium to long term. This is a developing challenge, and it is to be hoped that the application of GAAR will be sufficiently clear and focussed to ensure that it does not create uncertainty, which of course will be unhelpful to stimulating business and investment in the UK.
In more tightening up, loans to participators in close companies may need to be very carefully planned to avoid corporation tax charges by reference to the loan. Essentially, where a company is controlled by five or fewer participators, any loans to those individuals trigger a corporation tax charge for the company if the loan remains outstanding at the end of nine months after the end of the accounting period in which the loan was made. If the loan is then repaid, the tax paid by the company can be reclaimed.
With effect from March 20, 2013, any loans up to GBP 50,000 repaid and taken out again within 30 days will not prevent the company being subject to corporation tax on the value of the loan. Even where this is not in point, where amounts of more than GBP 15,000 are outstanding at the time of the repayment, and there are arrangements in place for another loan or similar access of value, relief from corporation tax will be denied.
Adding to this, arrangements seeking to channel value or loans to participators via partnerships, LLPs and trusts are subject to more broad anti-avoidance legislation. When looked at alongside the GAAR, which will come into effect at Royal Assent, it is fair to conclude that companies with outstanding loans to participators will need to review these carefully, and that future loans to participators will need to be carefully planned, to avoid corporation tax charges.
New rules will apply to ensure that companies tendering for government contracts are tax compliant. The new rules will provide that from April 1, 2013, any supplier tendering for a government contract will have to disclose 'occasions of non-compliance’ that occur after that date or in the previous six years.
With regards to inheritance tax, the following rules and changes will be effective.
A specific anti-avoidance rule will be introduced to prevent deductions being claimed for IHT in respect of certain debts. Firstly, where debts are not repaid on death, it will have to be demonstrated that there is a commercial reason for retaining the debt, not simply a desire to obtain a tax advantage. Secondly, where debts have been taken out to purchase property that is not subject to IHT (such as excluded property) or is relieved from IHT (such as business property, e.g. shares in trading companies or agricultural land), will not be allowable against other non-relievable or relevant property.
This rule may have significant consequences for many individuals and existing IHT planning arrangements will have to be reviewed to ensure that they are still effective. Full details of how the rules will operate will be available in the Finance Bill which is due to be published on March 28.
As suggested in recent months, the inheritance tax nil rate band of GBP 325,000, which had been frozen until 2015, will now be frozen until 2018, with the revenue raised (GBP 170 million a year by 2018) helping to pay for social care. This change reinforces the need for spouses to ensure that their wills are properly structured, to make maximum use of the nil rate band on the first death.
At the same time, it has been confirmed that the proposal to increase the cap on gifts to non-domiciled spouses will increase to GBP 325,000, and it will be linked to the nil rate band from April 6, 2013.
As previously announced, from April 6, 2013, non-domiciled spouses will be able to elect to be treated as domiciled in the UK for inheritance tax purposes, thus allowing them to access the full spousal exemption. These rules have been extended from the original proposal so that it will be possible to make an election from a date up to seven years before the election is made, so that any lifetime gifts brought into charge on death can benefit from the spouse exemption.
As previously announced in the Autumn Statement, pension allowances are being reduced with effect from April 6, 2014. The lifetime allowance, currently GBP 1.5 million, is being reduced to GBP 1.25 million, whilst the annual allowance is being reduced from GBP 50,000 to GBP 40,000. This imposes further limits on the amount individuals can save towards pensions, both on an annual basis and throughout their lifetimes, whilst still being able to benefit from income tax relief. There will be a transitional protection regime ( ”Fixed Protection 2014”) for those who already have pension pots worth in excess of GBP 1.25 million, or whose pension pots are likely to be worth in excess of this amount when they retire. This will protect existing pension pots from any punitive taxes, provided that no further contributions are made to the pension on or after April 6, 2014. A consultation paper will be released on this in the spring of 2013, but individuals may like to take advantage of the current GBP 50,000 annual allowance and make more contributions to their pension pot before April 6, 2014.
It was confirmed that the new annual tax on high value residential properties worth in excess of GBP 2 million owned by companies and other non-natural persons would come into effect on April 1, 2013 as previously announced, thereby quashing any last lingering hopes that more time would be allowed to enable the “de-enveloping” to take place before the legislation came into effect. There do not seem to be any headline changes to the details already announced (for which the draft legislation has been released in January), except that all the previous references to the Annual Residential Property Tax or ARPT, are now references to the Annual Tax on Enveloped Dwellings, or ATED.
In any event, the first returns will not be required until October 1, 2013, with payment due by October 31, 2013. The bands of the annual charge remain as previously announced, ranging from GBP 15,000 for properties worth between GBP 2 million and GBP 5 million to GBP 140,000 for properties worth in excess of GBP 20 million.
The extension of capital gains tax to companies holding such property will come into effect on April 6, 2013.
The Chancellor will claim that he did send a warning. The 2012 Budget included a statement that he would not hesitate to impose retrospective legislation in respect of Stamp Duty Land Tax (“SDLT”) avoidance schemes, and this has come to fruition in this year's Budget. It has apparently become clear to the Exchequer over the last year that a number of transactions utilising the so-called transfer of rights or sub-sales (whereby an individual contracts to purchase some land but before completion transfers his rights under the contract to a third party to take effect a number of years in the future), have been undertaken so as to avoid SDLT on the purchase price by disregarding the amount paid under the first contract. Accordingly, legislation is being introduced (which takes effect for transactions on or after March 21, 2012) to make it clear that such transactions do not work to avoid SDLT. Instead, all of the contracts in such a situation are to be aggregated together and there will be a single charge to SDLT. Individuals who have participated in such schemes have until September 30, 2013 to submit a return to HMRC, or to amend any return previously submitted. Whilst retrospective taxation is not to be encouraged or supported, it has been clear for a while that SDLT avoidance schemes in particular were very poorly viewed by the government and hence, such a move was not entirely unexpected.
The introduction of Seed Enterprise Investment Relief (“SEIS”) as from April 6, 2012 was intended to stimulate investment in higher risk small businesses, by offering income and capital gains tax reliefs. One angle includes the relief from capital gains tax on gains realised on the sale of shares in SEIS companies, where those gains are reinvested in SEIS qualifying investments. This was originally applicable for 2012-13, and is now to be extended to give the same relief to gains reinvested in 2013-14.
Other amendments to SEIS ensure that companies created by corporate service providers do not accidentally fall foul of the SEIS threshold. This should help enhance the ongoing attraction of SEIS investments, and if combined with the investment remittance relief introduced last April, can offer some very significant benefits to remittance basis investors in SEIS companies.
Employee shareholder status was introduced at a conceptual level in October 2012. In brief, it seeks to ensure that employees become equity holders in the company employing them, of up to GBP 50,000 in shares, in return for forfeiting certain employment rights, including some relating to study, flexible working, unfair dismissal and redundancy payments. It is not clear that forsaking employment protection to this extent is really worth it simply to become an employee shareholder, and assumedly to that end, this Budget endeavours to enhance the tax attractions of employee shareholder status. The key measure is to exempt from the charge to capital gains tax, and any gains realised by employee shareholders on their employment shares up to GBP 50,000, acquired in their capacity of employee shareholders. The second measure effectively exempts the first GBP 2,000 of shares awarded to employee shareholders from income tax and NICs. Time will tell whether this is enough to compensate for loss of important employment rights/protections.
As previously announced, a new statutory residence test will take effect from April 6, 2013. This new test, significantly clarifies the rules on when an individual will be treated as resident in the UK.
It was apparent for some years that the existing UK residence test, based not on statutory rules but on outdated case law, and HMRC guidance which cannot be relied on, is not fit for purpose in the 21st century. HMRC was finally persuaded of this in 2011 and after a consultation process, announced the statutory residence test.
An individual's residence status is to be determined by considering three sets of tests. The first two set out factors which, if satisfied, lead to an individual being conclusively UK resident or non-UK resident. If neither of these sets applies, consideration has to be given as to how many ties the individual has to the UK, and this determines the number of days which the individual has to spend in the UK to be UK tax resident.
The rules will are generally clear and objective but, as can be seen from the above summary, not exactly simple.
They are intended to produce the same results as the existing test for the majority of taxpayers, so those who are in the UK for 183 days or more in a tax year, who have their only home in the UK, or who work full time in the UK, will be conclusively UK resident. The tests for conclusive residence are more generous to those who have not been UK resident in any of the three previous years, in that such individuals will not be UK resident in any year when they are in the UK for fewer than 46 days. However, those who were UK resident in any of the past three years will only be conclusively non-resident if they spend fewer than 16 days in the UK in any tax year. A full-time job abroad with no more than 90 days in the UK (of which fewer than 21 are working days) will also lead conclusively to non UK residence.
For those whose residence is not determined by these tests, it is necessary to consider how many of five possible ties to the UK they have. Relevant ties are a family tie (broadly the residence of a spouse or partner, but also the residence of a minor child in some cases), an accommodation tie (broadly accessible, but not necessarily owned, accommodation in the UK), a work tie (40 days or more working in the UK), a 90-day tie (having been in the UK for more than 90 days in at least one of the two previous years) and, for those leaving the UK, only a country tie (spending more time in the UK than in any other country).
Once the number of ties is established, it is necessary to apply a day count test -- so for example, someone who has not been UK resident in any of the three previous years, and who has two ties will not be UK resident in a particular tax year, unless he spends 121 days or more in the UK. By contrast, if he has four ties, he will be UK resident if he spends 46 days or more in the UK in the tax year. The periods for those who have been UK resident in any of the three previous years are much shorter -- a taxpayer with two ties will only be non UK resident if he is in the UK for fewer than 91 days, and one with four ties will be resident if he spends 16 days or more in the UK.
The new rules will also give a statutory basis to the previous practice of allowing taxpayers to split years between periods when they are UK resident and periods when they are not.
Those who spend time in the UK but who hope to remain non UK resident in future years should now be considering their position.
Sophie Dworetzsky, Christopher Groves, Sarah Cormack and Charlie Tee work in the tax department at Withers LLP, London and they may be contacted by emails at email@example.com, firstname.lastname@example.org, email@example.com and firstname.lastname@example.org respectively.
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