UK: New Anti-Avoidance Provisions covering Disguised Remuneration

Last Updated: 31 December 2010
Article by Nicholas Stretch, Tair Hussain and Isabel Pooley

Wide-ranging draft legislation has recently been published, which is designed to prevent tax avoidance through the use of "disguised remuneration" arrangements. 

The main targets of the legislation are sub-trusts, family benefit trusts and employer-financed retirement benefit schemes ("EFURBS"). The measures are intended to catch arrangements using employee benefit trusts ("EBTs") and other vehicles to benefit employees, or persons linked to them, in ways which avoid or defer income tax or National Insurance contributions ("NICs") on the full amount. This could include loans or other relevant arrangements which simply involve refraining from allowing employees directly to benefit from the amounts provided until employment has ceased or employees have moved abroad.

However, the draft legislation is widely drawn and as currently drafted appears to catch many mainstream employee share plan arrangements where employee trusts are used to hedge employee awards by using shares already in trust or acquiring further shares.

Representations are being made to HMRC with the intention of either amending the legislation or obtaining guidance which makes it clear that such arrangements are not caught by the new rules. The initial response from HMRC is that it does not intend to interfere with the operation of mainstream employee share plan arrangements that are operated on a commercial basis without a tax avoidance motive and is considering how best to reflect this.  On the basis that we expect the legislation to be changed to reflect this, we are not suggesting that clients change their practice for operating standard employee share plans, but the position should be kept under review.

The legislation will come into force on 6 April 2011. Pre-existing arrangements are not affected, although actions taken now (but before 6 April) to beat the impact of the legislation are unlikely to be effective due to special anti-avoidance measures and any changes to pre-existing arrangements need to be very carefully considered.

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Introduction

Wide-ranging draft legislation has recently been published, which is designed to prevent tax avoidance through the use of "disguised remuneration" arrangements.

The main targets of the legislation are sub-trusts, family benefit trusts and employer-financed retirement benefit schemes ("EFURBS"). The measures are intended to catch arrangements using employee benefit trusts ("EBTs") and other vehicles to benefit employees, or persons linked to them, in ways which avoid or defer income tax or National Insurance contributions ("NICs") on the full amount. This could include loans or other relevant arrangements which simply involve refraining from allowing employees directly to benefit from the amounts provided until employment has ceased or employees have moved abroad.

However, the draft legislation is widely drawn and as currently drafted appears to catch many mainstream employee share plan arrangements where employee trusts are used to hedge employee awards by using shares already in trust or acquiring further shares.

Representations are being made to HMRC with the intention of either amending the legislation or obtaining guidance which makes it clear that such arrangements are not caught by the new rules. The initial response from HMRC is that it does not intend to interfere with the operation of mainstream employee share plan arrangements that are operated on a commercial basis without a tax avoidance motive and is considering how best to reflect this. On the basis that we expect the legislation to be changed to reflect this, we are not suggesting that clients change their practice for operating standard employee share plans, but the position should be kept under review.

The legislation will come into force on 6 April 2011. Pre-existing arrangements are not affected, although actions taken now (but before 6 April) to beat the impact of the legislation are unlikely to be effective due to special anti-avoidance measures and any changes to pre-existing arrangements need to be very carefully considered.

What is "disguised remuneration"?

The legislation applies to arrangements which provide an employee with a reward, recognition or loan in connection with their employment and where an EBT (or other third person) takes a "relevant step" in relation to that arrangement. Arrangements provided directly by an employer (eg loans etc.) do not appear to be caught – only those provided through an intermediary, although this is not entirely clear.

The "relevant steps" are widely defined. An EBT takes a relevant step if inter alia it:

  • Earmarks, however informally, a sum of money or an asset for an employee with a view to a later relevant step being taken, even if the details have not been worked out;

  • Pays a sum of money or transfers an asset to an employee, including making a loan or providing security for a loan. (Historically, employees have just had a low beneficial loan charge, if at all, on these amounts – now they will be taxed on the full amount, meaning that it may be better for the employer to lend the employee the money direct); or

  • Makes an asset available for the benefit of an employee.

PAYE and NICs will be payable when the relevant step is taken on the amount in question. This may be before the employee receives any real benefit (and could well be based on an amount which is way in excess of what he actually receives at that point) and could apply even if the employee ultimately receives no benefit. Offsetting rules should apply to prevent double taxation for the employee, for example if a charge arises when an EBT earmarks funds and subsequently the employee receives a taxable benefit, but these do not apply in every case. While there has to be an identifiable employee for a charge to arise, the definition is very widely drawn.

There are specific exclusions for certain employee share plan arrangements (see below), registered pension scheme arrangements, some loans and other steps taken on ordinary commercial terms which do not have a tax avoidance purpose as well as steps taken in relation to certain employee benefit packages offered on a company-wide basis provided certain conditions are satisfied.

Employee Share Plans

The new rules do not apply to:

  • Tax favoured share plans (share incentives plans, save-as-you-earn options, company share option plans and enterprise management incentives (EMI) options);

  • Forfeitable shares;

  • The grant of a securities option, including the grant of a conditional award under an LTIP; and

  • The issue of new shares, unless it involves an EBT.

There are also some other exceptions. However, as currently drafted, despite what appear at first sight to be exemptions for most employee share plans, there may be problems where the company makes use of an EBT as part of these arrangements.

For example, the rules may apply where an EBT enters into hedging arrangements where it acquires shares in the market to enable it to satisfy outstanding options when they are exercised or LTIP awards when they vest. Such arrangements are common and have a number of advantages. These include enabling the company to use market purchase shares, rather than newly issued shares, enabling shares to be acquired when share prices may be lower, reducing liquidity problems which might otherwise be relevant and also mitigating the impact of large share purchases on the company's share price. Some employee groups also like the security of knowing that an employee trust has sufficient shares to meet their entitlements and many companies like to outsource the running of their share plans to trustees.

Representations are being made to ensure that such arrangements, which do not constitute tax avoidance and are standard employee share plan procedures, will not be caught by the new legislation and we will report on further developments in due course.

Anti-forestalling provisions

Anti-avoidance provisions (known as "anti-forestalling" measures) apply so an income tax charge will arise on 6 April 2012 where any relevant steps are taken on or after 9 December 2010 which would be caught by the main legislation if they had taken place after 6 April 2011. The charge will not, however, apply if the arrangements have not been unwound by that date – i.e. the money has not been repaid or the asset has not been returned. There may therefore still be a short-term advantage in continuing with these arrangements.

Action to be taken

For companies who use trusts (or other vehicles) for mainstream remuneration arrangements, it is anticipated that the legislation will be amended, or guidance provided, to ensure such arrangements are not caught. However, as there are anti-forestalling arrangements in place, some care should be taken at this stage and advice sought where necessary.

Companies should in particular take care when corresponding with an EBT so as to not trigger a tax charge by the trustee inadvertently earmarking a sum of money or an asset for an employee.

For companies who have used trusts in relation to family benefit trusts, EFURBS and other similar arrangements, specific advice should be sought as to the impact of the legislation on future steps taken in respect of the arrangements, because these are the arrangements specifically being targeted by the legislation.

We will provide further updates as the legislation passes through Parliament and representations are made.

Please click here for a link to the Written Ministerial Statement on disguised remuneration and click here for a link to HM Treasury's announcement and the relevant draft legislation.

This article was written for Law-Now, CMS Cameron McKenna's free online information service. To register for Law-Now, please go to www.law-now.com/law-now/mondaq

Law-Now information is for general purposes and guidance only. The information and opinions expressed in all Law-Now articles are not necessarily comprehensive and do not purport to give professional or legal advice. All Law-Now information relates to circumstances prevailing at the date of its original publication and may not have been updated to reflect subsequent developments.

The original publication date for this article was 22/12/2010.

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