One of Alistair Darling’s objectives is to simplify the UK’s tax
code - and he launched the project at the Pre Budget Report with the
examination of three areas. The release of HMRC’s consultation
document on a “principles-based approach to financial products
avoidance” is the first example of a different approach to
The consultation document deals with two main areas: disguised
interest and transfers of income streams. With the scope
of the transfers of income legislation being fairly narrow, most
attention has been focused on disguised interest.
The proposals are intended to represent a fundamental shift in
approach to anti-avoidance legislation. The draft law is “principles-based”,
the objective being a move away from highly prescriptive, specific
legislation aimed at particular transactions, which may well itself
encourage further planning.
As such, the draft law, originally intended to apply from 1 April
2008, set out a ‘purpose’ statement, as follows:
“The purpose of [the law] is to secure that (subject to
exceptions, and except where double taxation would result) a return
designed to be economically equivalent to interest is treated in the
same way as interest for the purposes of corporation tax”
So, the aim of the proposals is to secure that where an investment
return akin to interest is ‘dressed up’ as something else, that
‘something else’ is taxed as if it were interest. Whilst the overall
purpose seems reasonable enough, the chosen approach introduces a
number of significant challenges, around its scope and how its fits
into existing legislation. In some cases this is clear: in other
cases, though, it is difficult to distinguish between, say, an
acceptable and an unacceptable investment into a group subsidiary.
Indeed, as the draft law stands at the moment, in many cases
uncertainty is increased. Deloitte supports calls from companies and
advisers alike to defer the legislation until 2009, to allow for
full and complete consultation - and potentially to link it directly
to the proposed Foreign Profits legislation.
- Will simplification really be achieved? Much has been
made of the sheer volume of corporation tax anti-avoidance
legislation introduced since 2005 and simplification is
certainly to be encouraged. However, is the proposed law
sufficiently clear that its boundaries won’t need to be altered
in future years? There is an obvious difficulty between setting
clear boundaries for the law and achieving comprehensive
coverage of the area targeted.
- How will the legislation apply to foreign profits?
Unsurprisingly, given the
existing consultation on foreign
profits, this was one of the main topics of the
‘open days’ held by HMRC. Although it initially seemed from the
open days that foreign profits were not the target of the
disguised interest rules, the actual exclusions proposed only
aim to avoid double taxation, by excluding only to Controlled
Foreign Companies, whose profits are apportioned to the UK or
who pay the majority of their profits as dividends to the UK.
So, there is still uncertainty over a great many situations
where investment income is earned outside the UK. Further, the
rules will need to be amended if and when the new Controlled
Companies regime comes into force.
- How will the law be applied in practice? The very
nature of principles-based legislation will lead to situations
where companies want confirmation of if and how it will apply to
given situations. HMRC believe they will have sufficient
resource to operate an adequate clearance system, but taxpayers
may need more assurance that commercial transactions will not be
delayed whilst clearances are processed.
- Can the law be “wholly” principles-based? HMRC have
responded to points raised at the open days by introducing
certain specific exclusions from the draft law. The result is
effectively a mixture of principles-based and prescriptive
In summary, HMRC’s principles-based approach has stimulated
debate around the future of anti-avoidance legislation in the UK.
The over-riding feeling from business is that further consultation
is needed to ensure that the rules do not promote uncertainty for
Any further announcements as to the timing and scope of the
legislation in the Budget on 12th March will no doubt stimulate
further enthusiastic debate.