As we all know by now, most EBT/EFRBS type arrangements don’t “work” in the sense they are not accepted to deliver the hoped for tax result. Cases such as Oco/Toughglaze and Rangers saw to that, with the result that many taxpayers who entered into such schemes admitted defeat and have settled the tax liabilities arising with HMRC, particularly with the threat of the 2019 loan charge hanging over them instead (more on that below).
The arrangement considered by the GAAR panel on this occasion presented a twist on such planning arrangements. The twist was that the beneficiaries of the trust are not the employees of the business but rather (for all intents and purposes) providers of finance to the Trust. In this particular case, the provider of finance happened to be the director of the company that established the trust. The director in question lent £100 per month to the trust (which was repaid a month later so no more than £100 was ever outstanding). In return, the trust lent the director approximately £125,000, which was essentially the sum contributed to the trust less promoters fees. The company claimed a Corporation Tax deduction for the sum contributed to the trust, and it was claimed that the loan to the director was not taxable and, in particular, was not taxable under the Disguised Remuneration legislation as the loan was not connected to his employment.
In April this year the GAAR advisory panel – a body of independent tax specialists which opines on the “reasonableness” of certain tax planning considered to be abusive by HMRC – reported that the arrangements were in its view contrived and served no purpose other than to avoid tax, and therefore concluded that the taxpayer entering into the arrangements was not a reasonable course of action in relation to the relevant tax provisions. That is the same conclusion they had reached on various EBT “fettered payment” schemes previously.
On 1 September HMRC issued Spotlight 56, warning that taxpayers who entered into such arrangements on or after 17 July 2013 (when the GAAR legislation was introduced) may now receive a “GAAR counteraction notice” – essentially allowing HMRC to adjust any relevant tax returns to reflect the correct position, which is likely to include a PAYE and NIC charges on the company in respect of the amounts “loaned” to the Director). Although the taxpayer has the right to appeal any such adjustments to the Tribunal, the chance of success would appear to be slim in view of the GAAR panel’s view on the arrangements. Furthermore, the issuance of a GAAR counteraction notice also allows HMRC (if it couldn’t do so before) to issue an Accelerated Payment Notice – forcing collection of the tax now, even if the taxpayer appeals to the Tribunal. HMRC suggest that if taxpayers want to avoid this, they should contact HMRC to settle the tax that is due instead, to avoid any ongoing costs of investigation and litigation. HMRC have said that “no special terms” will apply to taxpayers who settle after 30 September 2020, although it may be noted the settlement terms HMRC have offered previously appear to offer little in the way of an incentive in any event.
For those affected, the timing of the publication of the GAAR Panel’s opinion is unfortunate, perhaps due to COVID 19 delays. The GAAR panel opinion is dated 7 April, it appears to have been published by HMRC on 28 August and followed by the issue of the Spotlight on 1 September. It means employers were given only a month to decide whether to reach settlement with HMRC, which will simply not be practical in some cases.
If that doesn’t give clients (and their advisors) enough to think about, HMRC also make the point in the spotlight that the 2019 loan charge may apply to outstanding loans in this and similar cases. This was discussed in more detail in previous newsletters and is, broadly, a charge to PAYE/NIC on loans made to employees through tax avoidance arrangements such as EBTs, that were not otherwise be charged to tax as income in the past. The liability arises on 5 April 2019, but (following much controversy regarding the loan charge) now only applies, again broadly, to loans made between 9 December 2010 and 5 April 2016, and only then if they were not fully disclosed to HMRC. Settling the historic liabilities associated with the planning arrangements with HMRC is an effective (if costly) way to avoid the loan charge.
The timing of this announcement also means that in cases where the employer does not settle with HMRC, the individuals with loans outstanding at 5 April 2019 need to decide whether to amend their 2018/19 returns by 30 September to include the Loan Charge. Our understanding is that some users of schemes that rely on them not being able to benefit from the trust as a result of their employment may have been advised that the loan charge will not apply to their loans, so this may come as a considerable surprise to them. If the employer does not meet the liability, it will fall to them instead.
As already explained, this may also require some immediate action to be taken. Taxpayers within the loan charge are required to report the loan charge on their 2018/19 tax return, and in such cases HMRC have extended the date for submission of the relevant tax return to 30 September 2020, less than two weeks from now. If the individual taxpayer wants to spread the loan charge over 3 years, they also have to submit a loan charge reporting form by the same date.
Affected taxpayers will therefore need to consider the position carefully, but quickly. Do they settle with HMRC now to avoid the loan charge, or do they continue the fight to the Tribunal (despite the GAAR panel decision) and suffer the loan charge instead, should it be in point? As a further complication, HMRC have made it known that a penalty of up to 60% could be levied if the arrangement was used after 15 September 2016.
If you would like to discuss this matter further, please contact us.
We have previously discussed the planned extension of the Off Payroll Working rules to medium and large size employers in the private sector from 6 April 2021. This involves shifting the responsibility that currently exists under IR35 for a supplier company to operate PAYE to the engager that pays the intermediary supplier company. Medium sized and large employers will be required to consider arrangements involving contracts granted to suppliers who provide their services through a personal service company or similar entity and decide whether PAYE should be operated. There will be difficult decisions to make for the engagers.
An engager must issue a Status Determination Statement to a worker and any third party it contracts with. This is no small undertaking. The new rules will require an engager to take reasonable care and HMRC has issued guidance on what constitutes reasonable behaviour. The range of criteria for reasonable and unreasonable is almost as complicated as determining a worker’s status. We will look at this process more closely in an upcoming newsletter.
Engagers could decide in all cases of doubt to determine a worker as having an employment status , thereby increasing the commercial risk of losing access to an important skills base or risking further complications when determinations are challenged. Alternatively, they may continue to operate the rules appropriately and comprehensively so that the service providers stay on existing terms where that is the correct basis for an engagement. However, utilising that second approach will come with the knowledge that the primary financial risk for any failure to operate PAYE correctly rests with them as the engager, notwithstanding the fact that most contracts for services include tax indemnity clauses.
Beware HMRC enquiries
But what if HMRC challenges a status decision where an engager decides there is not a requirement to operate PAYE? To recap the new rules briefly, an engager must make a decision on the status of any contractor and ask themselves whether the individual delivering the services would be considered to be an employee of the engager but for the existence of a personal service company or similar entity through which the services are provided (the IR35 rules). HMRC can review and challenge a decision not to operate PAYE under the new Off Payroll Working rules.
Beware any such enquiries; the House of Lords Select Committee that reviewed Off Payroll Working heard evidence of unsatisfactory attitudes and approaches by HMRC officers that echo our own experiences in some cases.
HMRC has an agenda
HMRC will not make enquiries into the status of individuals who are deemed by engagers to be within the scope of the new rules and subject to PAYE. As with the current rules and IR35, HMRC’s objective is to identify individuals whom they consider should be within the scope of PAYE and to collect additional tax and duties. The pitfalls listed below reflect an approach that is intended to increase the scope of PAYE. It would be naïve to assume HMRC is simply carrying out routine health checks when it looks to test how the new rules are being operated. The conclusion of such an enquiry can involve assessments to tax, interest and penalties and so engagers should pay close attention to any interaction with HMRC from the very beginning.
Don’t let HMRC’s views or opinions become facts
Where a Revenue Officer is tasked with finding evidence of an employment, it is possible that they will interpret answers to questions or information that supports a case for employment status. In our experience, there can be a further risk that officers will listen for certain answers, assume a certain emphasis or attempt to “fill in blanks” that are consistent with an anticipated or desired pattern. The danger is that information gathered at meetings can be skewed or moulded by asking leading questions or by repeating answers for clarity which are not precise or have a different emphasis. The accumulated effect will alter the overall balance of the explanations given of a particular engagement. An officer’s preconceptions or opinions can begin to contaminate what should be a straightforward process of establishing the facts.
Everything you say or do is potential evidence
The answers to questions given at a meeting will be written down and used to produce meeting notes. You may think that this would be a collaborative process where both parties look to agree the facts but that is not necessarily the case. We have encountered situations where meeting notes contain errors because an officer has misheard, misunderstood or misconstrued answers given at a meeting. When brought to the officer’s attention we have been told not only will the notes not be changed but, if necessary, the officer’s handwritten notes will be produced as evidence at a Tribunal Hearing. Regrettably, in a particular case and after going through the complaints procedure in HMRC, this approach was supported by senior managers within HMRC. This confirms the need to manage any meetings with HMRC closely to prevent the risk of any such behaviour.
HMRC may cherry pick its evidence
Having described a process where answers given at a meeting are written down, converted into notes and put forward as evidence, that does not necessarily follow where answers to questions do not support HMRC’s aim of finding that an employment status exists. The notes may record answers to questions that indicate there is no employment status, but these answers will not be regarded as concrete evidence in the same way that answers supportive of an employment are treated by HMRC. In fact the reverse is likely to happen, whereby answers and explanations supplied to HMRC are often dismissed unless contemporaneous documentary evidence is supplied to back up the answers; this reflects the view that “if it isn’t written down it didn’t happen”. Evidence given to the House of Lords Select Committee records complaints of HMRC simply leaving out crucial evidence from status reviews such as unfettered substitution rights. HMRC officers fully understand the significance of such rights and, unfortunately some will try, if possible, not to recognise them.
Don’t allow HMRC officers to introduce their own definitions and criteria
The right to substitution, where present in an engagement, presents a difficulty for HMRC. It is a key indicator of self-employed status. HMRC officers may seek to blunt the effect of substitution rights by redefining them as not being “true” rights because the right has not been invoked or the officer presumes it will never happen. In one case, we were able to show circumstances in which substitution took place, but this was dismissed because it was in the year prior to the period that was under review despite the same terms and conditions existing throughout the engagement.
Don’t assume HMRC officers always know what they are doing
HMRC officers may speak with confidence and authority when presenting decisions, putting forward computations and threatening litigation. The reality is that some officers do not have an adequate knowledge of the legislation and relevant caselaw but instead base their approach on HMRC’s own guidance and policies, both formal and informal. In one case, the HMRC officer conducting an enquiry did not understand the IR35 rules, did not understand that HMRC had no discovery position, was out of time to make assessments and was incorrectly grossing up income for PAYE purposes and simply got some things wrong. The same individual was still prepared to use the threat of a contentious appeal hearing before the Tribunal to try and persuade an engager to settle on HMRC’s terms. We strongly recommend that everything that an HMRC officer puts forward as a recoverable liability at the conclusion of an enquiry should be checked via the relevant legislation.
Finally, many public sector employers avoided difficult decisions when operating the Off Payroll Working rules by simply treating all contractors as employees and operating PAYE. Evidence of this was put before the House of Lords Select Committee. This has caused serious difficulties for some agencies that can no longer recruit key service suppliers. Unless the private sector goes down the same route, there will inevitably be occasions where engagers receive enquires from HMRC into the operation of the new rules.
If you need help or advice on any HMRC enquiries or IR35 matters generally, please call one of our team.
Following the Finance Act 2020 receiving Royal Assent, and HMRC publishing updated guidance on its settlement terms, users of EBTs, EFRBS and other disguised remuneration arrangements should note that urgent action may be required by 30 September 2020.
Disguised remuneration legislation introduced in March 2016 aimed to tackle disguised remuneration arrangements including EBTs and EFRBSs where remuneration was provided by way of loans rather than salary or bonus by imposing a “loan charge” on the balance of such loans outstanding on 5 April 2019. As originally introduced, the legislation applied to any loans taken out from April 1999 onwards that had not been repaid by 5 April 2019 and attracted widespread criticism for its retrospective effects.
Following the publication of Sir Amyas Morse’s independent review in December 2019, the Government agreed that:
The required changes to the original legislation were made in Finance Act 2020 which received Royal Assent on 22 July 2020 and HMRC recently published updated guidance to its settlement terms.
The updated legislation and HMRC guidance have important implications and actions may be required by 30 September 2020 depending on individual taxpayers’ circumstances.
HMRC has made clear that taxpayers should not hold out hope that special terms will be available for calculating or paying the loan charge and that settlements must be consistent with the legislation. It is therefore important that all those impacted review their position and take action if required.
Actions required by 30 September 2020
Taxpayers seeking settlement under the original terms
Taxpayers who commenced settlement discussions with HMRC by 5 April 2019, will still be able to settle under the original terms published in November 2017. However, they will need to engage with HMRC and reply to HMRC by any dates specified in HMRC correspondence to enable settlement agreements, and any extended payment arrangements, to be agreed by 30 September 2020.
If such taxpayers have non-disguised remuneration charge income for the year ended 5 April 2019 to report, they will need to submit a self-assessment tax return for that tax year by 30 September 2020 if they have not done so already.
Other disguised remuneration scheme users impacted by the loan charge
Those who have outstanding disguised remuneration loans at 5 April 2019, where those loans were taken out after 9 December 2010, and not fully disclosed to HMRC, will also need to take action by 30 September 2020. In particular, they will need to:
Taxpayers who have already settled
Taxpayers who have settled with HMRC and are not due a refund do not need to take any further action.
Taxpayers who have already settled with HMRC for those years that were otherwise “unprotected” because HMRC was out of time to raise assessments, and the payments were therefore voluntary restitution, will be able to reclaim the refund of any element of their settlement where the loan charge would not apply as a result of the post-December 2019 amendments.
HMRC should contact them automatically by 30 September 2020 with details of how to claim the refund and they will have until 30 September 2021 to submit their claim. However, if you think you are entitled to a refund and have not heard from HMRC by 30 November 2020, you should contact HMRC directly.
Other disguised remuneration scheme users
HMRC has also published new settlement terms applicable to loans not subject to the loan charge, essentially, those relating to periods before 9 December 2010 where HMRC has open enquiries.
HMRC intends to pursue such open enquiries to conclusion. HMRC has said that where taxpayers choose not to settle under its updated terms, it will continue its enquiries until it can issue conclusions and assessments which can be appealed before the tribunals. It notes that reaching finality in such cases might still take many years with legal costs and late payment interest continuing to accrue in addition to any tax that payable should HMRC succeed.
If you require assistance in respect of any of the above, please get in touch.
The latest Finance Bill extended the “Off payroll working” rules (originally IR35) as they apply to public sector bodies to medium and large companies in the private sector. The start date has been put back to 6 April 2021, which is to be welcomed, but will those affected be ready for the change?
Who is affected?
Only small companies are exempt. The definition of a small company is one with no more than:
• £10.2 million of turnover (£12.2 million gross)
• £5.1 million Balance Sheet assets (£6.1 million gross)
• 50 employees
It is thought that 60,000 engagers will be affected.
What does it mean?
The IR35 rules were introduced 20 years ago. They were intended to address the situation where an individual provided services to an engager through a personal service company (PSC) but, except for the presence the PSC, would have be regarded as an employee of the engager. The PSC allowed the individual to achieve certain tax efficiencies by timing when they were paid, taking dividends, etc and the engager was not required to pay employer NIC. The IR35 rules apply to individuals that would otherwise be considered employees of the engager and require any intermediary body, such as a PSC, to operate PAYE on the income it receives from the engager for the services delivered by the individual.
A private sector company within the new rules will need to determine whether an individual who is engaged via one or more intermediaries should be regarded as an employee under the IR35 rules. The engaging company will be required to prepare a Status Determination Statement and provide a copy to both the worker and the person or organisation with which the contract for services is held. It must state the conclusion and the reasons for coming to it. A determination of employment status will have consequences:
• The fee payer will be treated as an employer for income tax and NIC
• Any fees paid will be treated as employment income
• The fee payer must operate PAYE and pay employer NIC
• PAYE must be reported and paid through HMRC’s Real Time Information system
What approach to take?
The extension of off payroll working rules to the private sector follows a roll out of the same rules for public sector bodies from 6 April 2017. A House of Lords select committee has reviewed the off payroll working rules and heard evidence from representatives of public sector bodies that have been affected. The committee’s report is uncompromising in setting out the shortcomings of IR35 and the generally negative public sector experience.
Line of least resistance?
The committee heard evidence that many public sector agencies had simply issued blanket status determinations and treated all service providers as employees in the belief that they were less likely to be challenged by HMRC. Undoubtedly, their logic is sound; HMRC will be very happy to receive IR35 PAYE even if this is the result of an incorrect or over-prudent decision, but that decision comes at a cost:
• The fee payer will need to pay 13.8% Employer NIC in addition to any fee paid to a supplier as well as deducting PAYE and employer NIC
• The fee payer must take on additional administration costs and risk around the required PAYE reporting
• Some engagers giving evidence to the committee said that they lost key contractors because of the decision to treat them as employees, which jeopardised major projects
• Other contractors demanded higher fees to compensate for the amount now lost in payroll taxes.
Embrace the challenge and apply the rules as intended?
But will you get it right? The House of Lords select committee heard evidence that pointed to the failings of HMRC to help fee payers to get it right. For many years, HMRC has made available on-line software called Check Employment Status for Tax tool (CEST). Unfortunately, the committee heard that it may only be able to provide an indicated status for a little over 80% of the engagements tested. That aside, the committee heard evidence that the software was fundamentally flawed owing to the absence of key tests applied to employment status. It was widely perceived to produce disproportionately more employment status decisions; the answer that best suits HMRC. Evidence was given that CEST results were often overturned at Tribunal and examples were given where the results were skewed because HMRC did not agree to key factors being inputted.
Clearly, anyone looking to operate the off payroll working rules rigorously will need to have an organised process for reviewing and determining the status of those service suppliers that could be within the IR35 rules and arm themselves with the appropriate tax advice. A strategic approach should reduce the uncertainty and burden of the new rules. It may be possible to apply suitable filters to arrive at clear groupings of those who are definitely outside or inside the rules and then focus effort to consider the more difficult cases. These too may be grouped and sampled to reduce the level of intervention before applying resources carefully to make the difficult decisions as reliable as possible.
The important message is to make sure you have adequate records to support the decisions you make. In our next article we will look at what it means to be on the receiving end of a challenge from HMRC and to go through a difficult enquiry into the employment status of service suppliers engaged by a company.
The extension of corporation tax to companies resident outside the UK for tax purposes is a major change to the way Non-Resident Landlords (NRLs) are taxed in the UK. Corporation tax will be charged on rental profits arising from 6 April 2020 onwards. Read More So, what will the directors of such companies need to do in preparation for this change?
Converting to corporation tax will require changes to be made in the way accounts are prepared, the contents of returns and the way in which returns are filed. The first year of the new regime may generate some problems, so company officers should plan for sufficient preparation time to ensure they are not caught out.
Contact with HMRC
HMRC announced that it would contact any companies that are already registered under the existing NRL income tax scheme by 30th June 2020 to issue it with a Unique Taxpayer Record (UTR) for corporation tax. This reference will be needed for the company to file its corporation tax returns online. Company officers must make sure that they have received a UTR and should contact HMRC to obtain one if one has not already been issued.
Companies that have appointed tax agents under the old NRL scheme, who have been registered with HMRC, will need to repeat the process of notifying HMRC with the necessary agent authorisation forms for the new corporation tax regime. The original authorisations for agents will not carry across to the company’s corporation tax record.
A corporation tax return must be accompanied by accounts. The accounts must be prepared in accordance with UK generally accepted accounting practice (“GAAP”). Company officers will need to check that accounts for the period 6 April 2020 onwards are UK GAAP compliant. The accounts will also need to be embedded with iXBRL software. This allows entries in the accounts to be tagged so that they are matched up to entries in the tax return.
Company officers will need to decide to what date the company will report its financial results. The corporation tax reporting and payment dates are different to the old income tax rules. Corporation tax must be paid 9 months after the end of a tax accounting period and the return filed within 12 months. There is no single reporting and payment deadline as there is for income tax. HMRC anticipates that most companies will use accounting periods ending on 5 April and so, in practice, the payment deadline will typically be 5 January and filing must be completed by 5 April. The first CT payment deadline for an accounting period ending on 5 April will be 5 January 2022 but that date will be earlier if a different accounting period is adopted.
Tax specific actions and information needed
Company officers will need to complete an NRL Self-Assessment returns for 2019/20 and file before 31 January 2021, paying any tax by that date. The Self-Assessment system may generate demands for payments on account for 2020/21. These should not be paid because the company will not have an Income Tax liability in 2020/21.
It is important that any Income tax losses that have arisen up to the end of 2019/20 are identified so that they can be carried forward against future CT liabilities on rental profits. HMRC has confirmed that this will be allowed but it may not be straightforward to integrate those losses into any CT reporting software; it is important that these are captured fully as part of the transition.
You should also check whether the company is charged interest on any loans it has received. The change to corporation tax will involve new rules on what interest can be claimed as a tax deduction and when. In particular, interest owed to a connected party must be paid within 12 months of the end of the accounting period to qualify for tax relief. It would be easy to continue to deduct interest that has previously been rolled up on a loan to a shareholder or parent company but the CT return will be incorrect if you do so.
Please contact us if you would like assistance with moving to the new corporation tax regime.
DON’T forget Non-Resident Capital Gains Tax
Companies resident outside the UK that make gains, directly or indirectly, on UK land or property are chargeable to corporation tax from 6 April 2019. Any chargeable gains will be reported along with the results of a company’s rental business but the rules for the timing of payment and filing returns become more complicated if a company is not already set up for reporting corporation tax. There are also special rules for computing Non-Resident Capital Gains Tax.
In May the Government announced the extension of its Job Retention Scheme until at least mid-October 2020. In so doing, more than one million employers will continue to receive direct support from the Treasury which will meet 80% of furloughed employees’ salaries (subject to a £2,500 per month cap). Eligible workers under the Self-Employment Income Support Scheme (SEISS) will also be able to claim a second and final grant in August. The grant will be worth up to 70% of their average monthly trading profits, paid out in a single instalment covering three months’ worth of profits, and capped at £6,570 in total.
Further measures were announced recently to provide additional financial assistance to businesses through changes to the corporation tax regime; specifically, regarding claims for the repayment of corporation tax in anticipation of losses.
The changes, which are already reflected in HMRC’s Company Taxation Manual, will allow companies to make claims for the repayment of corporation tax for a prior accounting period based on expected losses for the succeeding period, before computations have been finalised. Claimants should, however, expect claims to be properly considered by HMRC staff before being given the green light. It is suggested, therefore, that any claims which are to be made under the new rules are carefully prepared and robustly supported.
Before the above changes were announced, companies caught by the quarterly instalment payments regulations (QIPs) have long been able to claim repayments of “current year” payments of corporation tax. Such claims are not uncommon, for example where a company’s performance is impacted by worsening trading conditions causing downward pressure on profit projections.
Any tax paid before the first instalment date for the accounting period is repayable up until that date without any pre-conditions. Thereafter, companies wishing to secure tax repayments in-year (or at least before profits / losses for an accounting period have been finalised) will need to make a so-called REG6 claim.
Broadly, REG6 claims are comparable to claims by non-QIPs companies for repayment of corporation tax in advance of final liabilities being established (under s59DA TMA 1970). The main difference is that companies may only make section 59DA claims after the normal due date for corporation tax, i.e. following a period of nine months and one day after the end of the accounting period. In contrast, REG6 claims in relation to quarterly instalment payments can be made before the due date.
Claimant companies are required to state the amount of tax which is believed to have been overpaid and the grounds leading to the overpayment.
HMRC officers are instructed to consider each case based on its own circumstances. However, where claims are not accepted, the HMRC manual directs officers to initiate enquiries into the rejected claim under the provisions of Schedule 1A TMA70.
Claims where losses are anticipated
The changes to HMRC’s operating procedures mean that, with immediate effect, officers will now also be able to sanction repayments of corporation tax for previous accounting periods based on the expectation of losses in later periods.
For example, a company will be able to claim the repayment of corporation tax for an accounting period (AP1) on the basis that it expects to generate losses in its next accounting period (AP2). Such a claim can be made before the end of AP2 and in any event before computations are finalised.
Clearly, the new measures are designed to provide much needed cash flow assistance to companies hit hard by the Coronavirus pandemic. It will be interesting in the years to come to see if these changes become permanent rather than a temporary relief.
However, companies will need to prepare claims carefully as it is expected that HMRC officers will review claims very closely on a case-by-case basis. Particular scrutiny should be expected where claims are made early in AP2 where there remains significant scope within the accounting period for companies to improve their financial performance.
It is recommended that all claims are accompanied by as much supporting evidence as possible to assist HMRC’s understanding of a company’s position, thereby increasing the likelihood of acceptance. The following evidence, whilst not an exhaustive list, is likely to be relevant;
• Management accounts including cash flow forecasts;
• Revised corporation tax forecasts, including explanations of any particular factors underpinning them;
• Data illustrating seasonal trends;
• Confirmation that the company is not anticipating any exceptional gains or other taxable amounts in the remainder of the accounting period.
Again, where no or insufficient evidence is provided, companies should not only expect HMRC to reject their claims but also instigate enquiries.
There is no doubt that the new guidelines for corporation tax repayment claims represent a further welcome measure which (hopefully) will assist with the recovery of the UK economy. However, companies should ensure that their claims are well considered and properly supported. HMRC’s guidance requires officers to review claims with considerable diligence and to reject unsupported claims.
Companies should also bear in mind that, where repayment claims are accepted by HMRC but which turn out to be excessive (for example by the overstatement of a trading loss in AP2), further adverse consequences could result in the form of tax geared penalties.
Finance Act 2007 introduced the concept of potential lost revenue (PLR) when computing penalties for errors. PLR includes incorrect claims to loss relief. Therefore, companies will be well advised to retain clear records documenting how forecast losses are quantified. Provided a company can evidence that it demonstrated an appropriate degree of care and diligence in preparing a repayment claim, it should be possible to avoid penalties even if it transpires the claim is excessive.
It has now been over two months since life as we knew it changed fundamentally and terms such as “lockdown” and “social distancing” have become common parlance. Few of us would have anticipated the dreadful reach of a flu-like virus on our nation’s health, nor indeed our economy.
The Government’s introduction of measures to alleviate the financial burden on individuals and businesses (e.g. the Job Retention Scheme) has led to the re-deployment of many HMRC staff. Because of this and HMRC’s appreciation of the pressures caused by the epidemic, HMRC has slowed down its activities insofar as its interventions are concerned (i.e. enquiries and investigations). Some taxpayers have even received letters from HMRC advising that “a temporary hold” has been placed on ongoing enquiries, albeit recipients are invited to get in touch with named officers if they would rather continue.
Our experience is that HMRC’s offer to put matters on hold has been welcomed by some clients. Some, however, have been keen to retain momentum and push on to bring enquiries to a conclusion. Such a view is not uncommon where, for example, enquiries have already been ongoing for a long time.
Where our clients are committed to continuing correspondence with HMRC we have seen some very positive outcomes during lockdown. In several cases, home isolated inspectors have been receptive to settlement proposals and we have been able to conclude a number of interventions over the last few months. There is no suggestion of a relaxation to HMRC’s Litigation and Settlement Strategy, but perhaps the circumstances have allowed space and time to allow agreements to be reached away from the normality of settlement negotiations.
We have seen in the last few weeks, some of our WDF (Worldwide Disclosure Facility) client cases being accepted and settled within a calendar month of HMRC receiving disclosures, i.e. significantly sooner than the 90-day turnaround times which are still being quoted.
We have also been able to secure some excellent penalty mitigations where our clients have instructed us to press on with a view to concluding enquiries. Of course, whilst it is anticipated that increased leniency should be available where taxpayer cooperation has been halted or slowed because of the epidemic, it should not be taken for granted that it will automatically be forthcoming in every circumstance. It is important, therefore, to remain alive to the telling, helping and giving reductions where penalties are in point.
Our experience is that inspectors managing more serious enquiries under Codes of Practice 8 and 9 have also been prepared to pause existing enquiries. At the same time, new cases have not been registered.
As signs emerge that lockdown measures are starting to be relaxed, we are informed that HMRC intervention activity is slowly picking up again as new enquiries begin to be taken up by HMRC. However, it is likely to be some time before we can say that things are “back to normal” (whatever that may look like). What is for sure, however, is that open enquiries and disputes with HMRC will not simply be forgotten or just disappear. They will be waiting for us to emerge from an historic period spent in isolation. Therefore, clients where their health or the health of their families is not impacted directly by this horrible disease, may wish to bite the bullet and re-engage with HMRC now and put troublesome enquiries behind them once and for all.
The Future Fund, which is to launch in May, will provide loans of between £125,000 and £5 million, subject to matched funding from private investors.
While further details of the scheme, to be operated in partnership with the British Business Bank, are awaited, the published term sheet for the funding suggests that the current shareholders will need to be pretty confident about their ability to rise with the anticipated post-coronavirus recovery of the economy. If they are not able to sell or list their company within 3 years, then what the Government is offering is a loan at over 40% interest, with onerous terms.
The scheme will apply to companies which don’t have historic profits to enable them to access the Coronavirus business loans. If the company is urgently seeking funding, it’s a reasonable assumption that if it is profitable its 2020 profits are not going to be high. It would need to have sufficient growth in its 2021 and 2022 EBITDA to allow it to sell or float by mid-2023. Every other company that has taken the HM Treasury funding will be under pressure to sell by the same deadline, so there may be plenty of competition for buyers’ attention.
The published term sheet shows that HM Treasury will be charging 8% interest, but the key point is that the loan is a fixed-term loan for 3 years, and if the lender chooses not to convert the loan to shares, and if there is no sale or IPO by the end of the term, then the lender has the right to demand repayment with a 100% premium. That is, HM Treasury gets its money back and then the same amount again, so to repay a £1,000,000 loan will require £2,224,000.
If the Treasury does decide to convert its loan to shares, the loan will convert to shares with a minimum discount of 20% at the next funding round: the number of shares it receives is computed by charging it only 80% of the price paid per share by other investors.
There has been comment that the Treasury has taken advice so that the funding represents market terms. It would be interesting to know whether the timing of the recovery has been brought into that consideration. It seems that a company seeking funding might want to move its accounting date to show its post-recovery growth in accounts to, say, 31st May 2023.
Those investors who are being asked to match HM Treasury funding to allow a company to access this scheme might also consider whether they are prepared to invest more so that the company doesn’t need to access the government scheme, as otherwise they risk their investment effectively being used to fund the 100% premium to the Treasury.
This is particularly the case if the investor wants Enterprise Investment Scheme (“EIS”) or Seed SEIS (“SEIS”) relief, because if the matched funding has to be structured as a convertible loan identical to the Treasury funding, then it won’t qualify for EIS/SEIS relief. It should also be noted that once an investor has made an investment in a company which doesn’t qualify for EIS/SEIS, no subsequent investment can ever qualify for the relief.
Suppose instead that a prospective investor provides funding now via an advanced subscription agreement which qualifies for EIS, with the intention to issue the shares in 2021, and suppose that he has income in 2020/21 sufficient to use the relief and gains in 2019/20 that he can claim deferral against. He can claim EIS income tax relief worth 30% of the amount invested against his income for 2020/21 and thus his payment on account due on 31st July 2020, and CGT deferral relief worth 20% against his gain, effective on 31st January 2021.
In those circumstances, the investor has managed to get HM Treasury to “donate” funding of 50% of his investment to him by giving the tax reliefs available; HM Treasury has matched half of his investment, with considerably less downside and considerably less hassle.
From the perspective of the shareholders in the high-growth company, including the founders, there is flexibility to sell or float at a time of their choosing, the risk of the 40% interest rate is avoided, and the potential practical problems of having a government shareholder is avoided. They may well be prepared to offer a significant discount to the angel they know to get his funding instead.
Obtaining EIS relief is not a simple matter and is a subject on which we advise frequently. If you would like to discuss this, please contact us.
Below we highlight some of the potential implications for property owners and property businesses. These may not have immediate impact, but could significantly increase the amount of tax due in future.
Non-UK residents and the disposal of UK main residence
Non-UK residents are liable to UK capital gains tax on the disposal of UK residential properties. If the disposal is of their main residence, gains in relation to any tax years for which they occupied the property (or other UK homes) for 90 days or more may benefit from principal private residence relief.
Given the extent of worldwide restrictions on travel, the owner may fail to meet the 90 day requirement for 2020/21, which results in a proportion of the gains arising on disposal of the property not attracting the relief.
Furnished holiday lets
Furnished holiday lets attract some tax advantages over other buy-to-let properties including, as the activity is deemed to be a trade rather than investment activity, the ability to claim Entrepreneurs’ Relief (“ER”) on disposal so that the gains arising are taxed at the reduced rate of 10% rather than residential property rate of 28%. A property has the status of a furnished holiday let for a tax year, so in order to meet the 2-year requirement for ER, it may be necessary to qualify for the status in 3 separate tax years.
A property in the EEA can qualify as a furnished holiday let, so the impact of the virus in other countries may impact on the treatment.
To qualify as a furnished holiday let the property must meet several conditions in respect of the number of days that the property is available to let and the number of days it is in fact let in a tax year.
The legislation does however provide certain “grace periods” where a property fails to qualify if it is not actually occupied for the requisite 105 days in a tax year due to unforeseen circumstances but there is a genuine intention to let it. A taxpayer needs to elect for this treatment and would need to be aware of this before the deadline of 31st January 2022, in order to preserve their entitlement to relief for the tax year 2020/21.
It might be the case that by delaying a sale past 5th April in a future tax year, or by offering the accommodation cheaply for some nights in a future tax year, the 18% tax saving can still be achieved, but an owner would need to be fully informed of the consequences of his choices in order to navigate this.
Divorce, separation and capital gains tax on the family home
The COVID-19 crisis is anticipated to result in a surge in divorce applications, but delays caused by the virus could result in a tax liability where an interest in the family home is transferred to a spouse.
If a couple separate in April 2020, then unless they either complete the transfer before 5th April 2021, the end of the tax year of separation, or wait until after the divorce is finalized, such a transfer is not a no-gain no-loss transfer, but takes place at market value even if no consideration is given. Thus, unless any gain is fully covered by Principal Private Residence relief, bad timing could give rise to a tax liability.
Higher rate SDLT and properties available to the public
Acquisitions of residential properties for £1.5m by a company are subject to stamp duty land tax at the 15% higher threshold rate. However, among the potential exemptions applying are where the property is acquired as part of a trade and it will be made available to the public for at least 28 days, e.g. a residential dwelling acquired for use as a wedding venue might benefit from this exemption.
Relief is clawed back if the condition is not satisfied at any time in the three years from acquisition. If such a business closed its doors because of the COVID-19 crisis and failed to satisfy the 28-day condition within the three years since its acquisition, the relief could be clawed back.
Owners of certain heritage properties benefit from conditional exemption from inheritance tax and capital gains tax, subject to undertakings given to HMRC. Typically, these undertakings include making available the property to the public for 28 days or more in a year. Unlike in the case of the higher rate threshold for SDLT, the minimum 28 days is not specified in statute but is HMRC established practice. In light of COVID-19, HMRC has recently issued guidance confirming that undertakings will not be considered breached if the properties remain closed.
De-enveloping residential properties held in corporate structures
The government have advised that house sales should not go ahead unless essential and so it will be hard to value properties and any valuation is likely to be reduced.
This may provide an opportunity for some who hold residential properties in structures which are no longer advantageous for UK taxation purposes to “de-envelope” those properties without incurring non-resident capital gains tax charges that applies to gains relating to the period from April 2015 to date.
Restricted international mobility, plunging exchange rates and impending recession arising from the COVID-19 crisis throw up significant tax implications.
We have already discussed the implications of the statutory residence test for individuals trapped in the UK because of the crisis in another article (link here).
As illustrated below, the ramifications for businesses are extensive and include potential unanticipated tax charges which would be especially unwelcome given current pressure on cash flow.
Many UK companies will be looking for funding from wherever possible, so tax will be a secondary issue but this is still worth understanding.
Loans from overseas group companies
If a UK company borrows from a non-UK group company, it is necessary to consider whether the borrower has an obligation to deduct withholding tax from payments of interest. The determining factor here is whether the interest is “short” (no withholding) or “annual” (obligation to withhold). A loan which is intended to last for less than 12 months is short, but an issue which is likely to arise is that a UK borrower may not be able to repay on time, so the loan may be rolled over. This is addressed in the HMRC Savings and Investment Manual at SAIM9076, which states that without clear evidence that the intention was for the loan to be less than 12 months, HMRC “will be unable to accept” that this was the case, in which case withholding tax is due. This is clearly worth addressing.
It may also be appropriate to consider whether the interest can be paid gross under the relevant Double Tax Treaty. The UK borrower needs agreement from HMRC before making the payment of interest, which requires the overseas lender to apply and complete the appropriate form. In the current circumstances, it may take some time to get this approval, and so applying as soon as the loan is made may be sensible.
Exempt distributions from overseas subsidiaries
Subject to conditions, distributions received by a UK parent from an overseas subsidiary are exempt from UK corporation tax. Paying a dividend up to the UK from an overseas subsidiary might be a response to cash flow problems in the UK. However, a reduction in employee headcount could have implications if it results in a group becoming “small”.
The conditions determining whether the distribution exemption applies depend on whether the company is small or large, a small company for these purposes being one with 50 or fewer employees and less than €10 million turnover or less than €10 million gross balance sheet assets.
Giving the differing condition applying to large and small companies, it is possible for a dividend that would be exempt if received by a large company to be taxable on a small company, in particular if the paying company is located in a non-qualifying territory. In our view, furloughing an employee should not reduce the headcount for this purpose. However, part-time employees are treated as a fraction of a person for this test, and so reducing employee hours can reduce the headcount.
The 50 employee threshold would have to be missed for two consecutive accounting periods for a group to move from being medium-sized to being small. This may therefore not be an immediate problem but a failure to identify this issue could mean that a cash injection from a subsidiary is reduced by a 19% tax charge.
Travel restrictions could have implications for company residence. HMRC have commented on the issues where board meetings are held in the UK, but there are also issues for certain companies if board meetings are held outside the UK.
Where a non-UK domiciled individual sets up a company, he may use a non-UK incorporated company so that the shares are excluded property for UK inheritance tax.
For such non-UK incorporated companies, if management and control is exercised from the UK, for example if board meetings take place in the UK, the company will be treated as UK tax resident, and within the UK corporation tax net.
If the directors of a non-UK incorporated but already UK resident company were to now hold board meetings outside the UK, for example because of travel restrictions, the company would be treated as having migrated from the UK, giving rise to a potential corporation tax exit charge as its assets would be treated as having been disposed of and reacquired at their market value. Such a “dry” UK corporation tax charge could have a very unhelpful impact on cash flow.
Exchange rate-related gains in investment companies
From the UK perspective, sterling has weakened significantly against the dollar. Dollar denominated assets might therefore give rise to a sterling gain significantly greater than the face value of the gain in dollars.
While this is difficult to avoid in the instance of individuals and trustees, some investment companies might be able to mitigate the impact by electing for the US dollar rather than sterling to be the company’s functional currency prior to realising dollar denominated gains.
Entrepreneurs’ Relief, Substantial Shareholding Exemption and trading losses
Reliefs such as Entrepreneurs’ Relief, and the Substantial Shareholding Exemption are premised on non-trading activities of a company or group falling below a threshold.
For example, Entrepreneurs’ Relief on the disposal of shares requires that the company is a trading company, or the holding company of a trading group. A trading company is one whose activities does not to a substantial extent include non-trading activities. HMRC practice takes “substantial” in this context to mean more than 20%, taking into consideration income from non-trading activities, the asset base of the company, expense incurred and time spent by the employees on various activities, the company’s history, and considers these indicators in the round.
Many companies or groups will include an element of non-trading activity. Where trading activity has diminished significantly because of the COVID-19 crisis, it may be that the non-trading activities become “substantial” in comparison with the result that the qualifying conditions for these reliefs might not be met.
If companies propose to reduce their activities temporarily, they should ensure that the evidence their intention to recommence operations once they are able to. This should bolster the argument that company assets continue to be trading assets for the purposes of the substantial non-trading activities tests.
Evidencing that company continues to trade is also important to ensure that crisis-related trading losses can be set against future profits of the same trade rather than being treated as losses of a trade that had ceased. Furloughing employees rather than making them redundant should provide evidence that the trade continues.
Enterprise Investment Scheme (EIS) and the Seed Enterprise Investment Scheme (SEIS)
The Enterprise Investment Scheme and Seed Enterprise Investment Scheme provide income tax and capital gains tax reliefs for investors into early stage companies. Both reliefs are subject to qualifying conditions for the investor and the investee company including time limits.
For example, money raised by a new EIS share issue must be spent within two years of the investment or, if later, the date that the trade started, on the qualifying business activity only. Given the downturn in activity, for existing investments, spending the money appropriately in that two-year window may be more difficult.
There are also rules which clawback or restrict relief where value is received by an investor, and so any situation where the company meets a cost of an investor, or makes a payment to him, in a difficult time, could have a high cost in lost tax relief.
Where an EIS company needs money but a funding round is not possible, an existing investor might consider making a loan to the company, but care is needed because the repayment of a loan can trigger a clawback of relief.
Statutory clearances in respect of transaction including share exchanges, share buybacks, demergers and transactions in securities require HMRC to provide a substantive response within 30 days.
Given the current circumstances which impact HMRC employees too, it is not clear how the 30-day timetable will be adhered to. Of course, clearance applications are not compulsory. The reliefs at stake apply automatically provided the relevant conditions are satisfied. However, clearances do provide certainty to taxpayers and in the absence of such certainty, particularly for more complex transactions, taxpayers may be reluctant to proceed.
These examples illustrate the wide-ranging implications and highlight the importance of not taking anything for granted considering the crisis: time limits, the availability of reliefs and proposed transactions should be reviewed afresh.