Tax Update: A Round-Up of Recent Tax Issues - Monday, 14 March 2011

1. PRIVATE CLIENTS

1.1. Pensions annual allowance charges

When setting out the changes to pensions tax relief and the reduction of the Annual Allowance (AA) to £50,000 from the tax year 2011/12, the possibility of setting up an arrangement for the tax claw back on exceeding the AA to be met from out of the pension fund was left open.

The Financial Secretary to the Treasury, Mark Hoban has now announced that individuals with claw back charges above £2,000 will be able to elect for the full liability to be met from their pension benefit. Schemes will be required to operate this facility only where an individual has exceeded the AA outright within that scheme in the relevant year. The Government has given schemes flexibility in how they operate, but point out that any adjustment to an individual's pension benefit should be fair to all scheme members.

It is anticipated that this facility will be used mostly by those in defined benefit schemes ('final salary' or 'revalued average salary') as there may be unavoidable spikes in the value of pension savings due to salary increases on promotion that cannot be covered by brought forward unused relief. Those making contributions or having contributions made on their behalf, into defined contribution arrangements will have greater control over the amounts involved and will therefore be better able to avoid the AA charge.

Setting a lower limit for being able to elect for the liability at £2,000 is interesting. This just happens to be the amount of tax underpayment arising in a year that can be coded out under PAYE. This will mean that where an employee has a AA charge, provided of course that their tax liability has otherwise been covered by tax deducted under PAYE, they will have the following options:

• pay the liability direct, or
• if the AA charge is £2,000 or less, have it collected through the PAYE system so 'paying' 1/12th a month over the next full tax year, or
• if the AA charge exceeds £2,000, elect for it to be paid by the pension scheme but suffer an adjustment to the benefit/lump sum received on retirement (but how the adjustment is dealt with so as not to disadvantage other scheme members due to the early payment out of funds will be determined by the scheme administrator).

www.hm-treasury.gov.uk/press_27_11.htm

1.2. Offshore Penalties - questions and answers

The new penalties set out in Finance Act 2010 Schedule 10, take effect from 6 April this year. These are new powers for increased penalties to be charged in relation to undisclosed offshore income and gains.

The powers build on HMRC's existing tightened regime and create a new measure to strengthen the deterrent against non-compliance in cases where such information is harder for HMRC to obtain.

Essentially, the "behavioural" penalties will be higher in cases where undisclosed income and gains arise in jurisdictions where HMRC has difficulty accessing information from that particular jurisdiction.

Various jurisdictions are placed into three categories (published on HMRC's web site) and penalties are then applied depending on which category a country falls into.

The categories and penalty levies are as follows:

www.hmrc.gov.uk/news/offshore-faqs.pdf

2. BUSINESS TAX

2.1. Office of Tax Simplification Small Business Review

The OTS has produced its interim report considering areas of tax complexity and uncertainty for small businesses which recommends priority areas for simplification. The report is aimed at businesses with fewer than 10 employees.

www.hm-treasury.gov.uk/d/ots_small_business_interim_report.pdf

The main conclusions are:

• Complexity for small business has stemmed from the frequency and volume of change in legislation and procedures. While curtailing change would deliver simplification, it is worth exploring whether there are viable alternative options for taxing very small unincorporated businesses.
• The integration of income tax and national insurance should be given serious consideration. While the position of all those affected would need to be carefully considered (for example pensioners), integration would reduce differentials between rates and operation through different legal forms. It may also make the IR35 legislation obsolete.

However introducing major structural change will take time, so the following suggestions are made for changes to assist small business in the interim:

• Improving elements of HMRC's administration (and thereby its relationship with taxpayers):
• • Give an early assurance that a business's tax affairs are in order, and to allow people to concentrate on their business whilst preserving HMRC's role in managing the tax system. Reduce extension of the incidence of discovery and increase the certainty principle on which self assessment established;
  • Offer a rulings system in one or two defined areas (e.g. self employed/employed status);
  • Improve the quality of information given by HMRC and rules on when it can be relied upon;
  • Define areas more likely to attract HMRC enforcement activities;
  • More reliance by HMRC on tax agents;
  • Increased accountability for HMRC actions;
  • Investigate the benefits of open and faster working between HMRC and agents;
  • Co-ordination of deadlines between HMRC and Companies House;
  • Combined class 2 and class 4 NI collection;
  • Simplify the monthly payroll process – e.g agreed monthly deduction rates for employees, and no PAYE 'extras' such as maternity pay and statutory sick pay etc.
• Choice of legal form:
• • Consider a 'look through principle for the smallest companies whereby the business is taxed ignoring the company;
  • Consider relief for disincorporation;
  • Consider a single corporate tax rate (the differential between the large and small company profit rate will be only 4% in 2014).
• Simplifying reporting requirements on reimbursed expenses and benefits for employees:
• • Introduce a limit below which reimbursable expenses and benefits for employees are not reportable;
  • Remove the £8,500 P11D threshold.
• Improvements to the capital allowances regime:
• • Consider an option to treat expenditure exceeding the AIA limit as incurred over 2 years;
  • Consider an option to quickly agree the value of plant included in a building.
• Considering a simpler VAT system for small businesses that undertake international activities.
• Align the tax year end with a calendar month (31 March or 31 December). With respect to IR35 three options are put forward:
• suspend IR35 with the intention of permanent abolition, using the period of suspension to investigate behaviours and costs; or
• keep IR35 legislation unchanged, but improve the way it is administered by HMRC, or
• introduce a new 'business test', aiming to radically reduce the size of population potentially caught by IR35.

There is a recognition that NICs contribute approximately £100bn or approximately 18% of total tax revenues. There is a big differential between operating as a company and as self employed in terms of total NI costs.

Whilst there is no tax deduction for dividends, there are still considerable advantages to receiving dividends instead of salary.

The benefit in kind system is complex, with some benefits being exempt from income tax and not NIC, others exempt from NI but not income tax and some being exempt from neither.

The differential in tax rates for capital gains and income means there is a big incentive for returns to be taken in capital form.

Complexity is created through differences in the administation of income tax and NI. Income tax is assessed on a cumulative annual basis, whereas NI is assessed on a weekly earnings period. There are nine different thresholds and seven different values. There are estimated savings in the region of potentially £40m from aligning earnings periods for income tax and NI.

It is recognised there would be a number of factors to consider in integrating income tax and NI, including: transitional issues; Exchequer impact; increase in income tax rates; how to treat pensioners, including those who are still working; adjustment of tax rates on dividend and savings income and whether the loss of employer's NI could be covered by increasing business rates or tax rates on savings/dividend income.

Interim measures could include aligning the definition of earnings for IT and NIC; consistency in calculations; consistency on reliefs and exemptions; refinements to the tax treatment of pensioners and savings/dividend income;, an examination of the tax treatment of self employed particularly on NIC and the potential for merging class 2 and 4.

If there are to be proposals for change a clear timetable is needed, with work to commence by end 2011.

A clear boundary between employed and self employed status would give certainty to employers and help to create a level playing field for costs across all trades and industries.

The OTS heard from members of the National Union of Journalists of the difficulties they experienced because of the variety of work undertaken as journalists. Many found that if they attended a school to give a talk about their profession they were treated as employed by the engager because of the teachers', lecturers' and tutors' rules. A general view expressed to OTS was that the target of the teachers' rules had been extended by HMRC, and that it now captured other occupations.

There is a suggestion that simplification of record keeping could be considered for micro-businesses – those with turnovers of less than £20k, though it is recognised it may be difficult to introduce this with fairness and avoiding increased complexity.

2.2. Partnership Tax Returns with missing UTRs for non-UK resident partners

HMRC issued guidance in Issue 34 Working Together about the need to include Unique Taxpayer Reference numbers (UTRs) for all partners in partnerships required to submit a UK tax return. The guidance explained that HMRC would no longer accept dummy or substitute UTRs for partners.

In response the British Venture Capital Association (BVCA) made representations about the impact of the change on investment partnerships with non-UK resident partners. HMRC agreed an exception process as an interim measure designed to bridge any short-term operational difficulties. The exception process will continue to apply for the tax year ending 5 April 2011 but the contact information has changed. Paper partnership tax returns with missing UTRs for non-UK resident partners should now be sent to:

www.hmrc.gov.uk/sa/pship-rtns-missing-utrs.htm

2.3. Response to consultation on legislating Extra Statutory Concessions

HMRC has published responses to its July 2010 consultation on legislation for certain extra statutory concessions. Those covered include:

• A81 – Termination payments and legal costs (income tax)
• C4 - Trading activities for charitable purposes (income tax and corporation tax)
• A10 - Lump sums paid under overseas pension schemes (income tax) – legislation for this concession will be deferred pending further considerations of the full implications of the changes
• The equitable liability concession
• B47 Furnished lettings of dwelling houses - wear and tear of furniture (income tax and corporation tax) – proposed legislation on this will be deferred as the full implications of comments made are considered.

http://customs.hmrc.gov.uk/channelsPortalWebApp/channelsPortalWebApp.portal?_nfpb=true&_pageLabel=pageLibrary_ConsultationDocuments&propertyType=document&columns=1&id=HMCE_PROD1_031108

2.4. Press release on iXBRL Corporation Tax filing requirements from 1 April 2011

HMRC has issued a press notice reminding companies of the new iXBRL filing requirement from 1 April 2011 for accounting periods ending after 31 March 2010.

http://nds.coi.gov.uk/content/detail.aspx?NewsAreaId=2&ReleaseID=418467&SubjectId=2

Smith & Williamson's factsheet and comments can be found at:

www.smith.williamson.co.uk/interrupt/index/cid/3742
www.smith.williamson.co.uk/ixbrl-tagging

2.5. Plant or Machinery Leasing Anti-Avoidance

A lessee under a plant or machinery long funding lease can claim capital allowances. Some large businesses have entered into contrived, circular transactions involving the sale, leaseback, and reacquisition of their plant and machinery, over a period of three or four weeks, with the aim of claiming tax relief twice on one amount of expenditure.

HMRC has recently become aware that the scheme has been widely marketed and implemented with associated significant risk to the Exchequer. To date instances of the scheme that HMRC are aware of have involved expenditure in excess of £1 billion, putting hundreds of millions of pounds of tax at risk.

Legislation, which will have effect from 9 March 2011, will be introduced in Finance Bill 2011 to confirm that lessees engaging in transactions of this type are only entitled to tax relief up to the actual amount of their expenditure on plant or machinery.

www.hmrc.gov.uk/budget-updates/wms-leasing.pdf
www.hmrc.gov.uk/budget-updates/draftleg-techback.pdf
www.hmrc.gov.uk/budget-updates/tiin-preventavoid.pdf

Currently (prior to 9 March 2011) a lessee under a long funding finance lease is treated as incurring capital expenditure on plant or machinery (Section 70A CAA 2001). The amount of that expenditure is set by section 70C CAA 2001 and can include any part of the residual amount (the expected residual value of the leased asset at the end of the lease) guaranteed by the lessee or a person connected with the lessee. Should the lessee be called on to make a payment under that guarantee the effect of this is to reduce the disposal value at the end of the lease computed in accordance with section 70E CAA 2001.

The disclosed avoidance scheme seeks to obtain tax relief for more than the actual amount of the expenditure. The scheme involves arrangements which are claimed to have the effect of guaranteeing the value of the leased asset at the end of the lease but that guarantee is taken into account again, when paid, for tax relief purposes.

From 9 March 2011, a lessee will not be able under section 70C CAA 2001 to include in capital expenditure relating to the lease and a residual amount guaranteed under a long funding lease to the extent that it is reasonable to assume that relief would be available in respect of amounts when actually incurred under that guarantee, or would have been available but for other arrangements entered into at the same time.

Further, the actual payment under that guarantee will also not have the effect under section 70E CAA 2001 of reducing the disposal value at the end of the lease, again if it is reasonable to assume that other relief will be available on that amount or would have been available but for other arrangements entered into.

In summary where a payment under a guarantee can reasonably be assumed to generate relief otherwise than as a residual amount guaranteed in connection with a lease, then it will no longer be considered to be capital expenditure in the hands of the lessee for capital allowance purposes.

2.6. Incorporation of partnerships and the treatment of goodwill

HMRC has updated its CIRD manual to include new pages for advice on the incorporation of partnerships and the treatment of goodwill.

www.hmrc.gov.uk/manuals/cirdmanual/updates/cirdupdate080311.htm

2.7. Stamp Duty and SDRT statutory instruments

Statutory instruments have been issued to:

• remove multiple charges to stamp duty and stamp duty reserve tax from transactions made on a regulated market, a multilateral trading facility or over the counter and which are transferred through certain recognised clearing houses, their members and their nominees. (SI2011/667 The Stamp Duty and Stamp Duty Reserve Tax (European Central Counterparty Limited) Regulations).
• give relief from stamp duty and stamp duty reserve tax to certain transfers of, or agreements to transfer, traded securities or options made in the course of trading in those traded securities or options either on a facility or over the counter. (SI2011/665 The Stamp Duty and Stamp Duty Reserve Tax (Investment Exchange and Clearing Houses) (Revocation) Regulations.)
• remove multiple charges to stamp duty and stamp duty reserve tax from transactions made on a regulated market, a multilateral trading facility or over the counter and which are transferred through certain recognised clearing houses, their members and their nominees. (SI2011/666 The Stamp Duty and Stamp Duty Reserve Tax (Eurex Clearing AG) Regulations; SI 2011/670 - The Stamp Duty and Stamp Duty Reserve Tax (SIX X-CLEAR AG) Regulations 2011; SI 2011/669 - The Stamp Duty and Stamp Duty Reserve Tax (LCH.Clearnet Limited) Regulations 2011).

www.legislation.gov.uk/new/uksi/2011-03-10

2.8. Abolition of industrial and agricultural buildings allowances

The Industrial Buildings Allowance (CAA01 part 3) and Agricultural Buildings Allowance (CAA01 part 4) are to be withdrawn with effect from 1 April 2011 for corporation tax and 6 April 2011 for income tax purposes.

Included within industrial buildings allowances were allowances for qualifying enterprise zone expenditure. There is therefore a very short window of opportunity to get any remaining initial allowance enterprise zone expenditure relief at 100% before the legislation is abolished. This is because it will only be possible to incur qualifying expenditure in order to claim an allowance where the legislation exists, despite the fact that expenditure can in certain instances be incurred within 20 years of when the site was first included in the enterprise zone. However there has been some speculation as to whether enterprise zones will be reintroduced by the coalition Government, so new opportunities may become apparent after 23 March 2011.

As there will be no further industrial/agricultural buildings allowances after the cut off, and as the rates currently available are very low, taxpayers should consider the opportunity to claim plant or machinery allowances for new capital expenditure and claim revenue deductions for repair expenditure. However with respect to former 'industrial' buildings (but not former 'agricultural' buildings), there are some particular rules to bear in mind on a change of ownership.

With respect to fixtures in a building that was an industrial building for the purpose of what is currently CAA01 part 3, the amount of plant or machinery allowances which a new owner can claim is restricted according to the residual qualifying expenditure at acquisition (CAA01 s186). This section is being amended so that references to CAA01 part 3 are to become references to Part 3 immediately before its repeal by FA08 s81 (see FA08 Sch 27(5)). However this restriction does not apply to what will become former agricultural buildings to which CAA01 part 4 currently apply, and it does not apply to plant or machinery in certain circumstances where expenditure was incurred by the previous owner before 24 July 1996.

3. VAT

3.1. Partial exemption guidance for Higher Education Establishments

HMRC has issued a non-mandatory framework for Higher Education Establishments who wish to formulate partial exemption special methods. It covers in particular:

• how to determine a fair 'value' for supplies of grant-supported education;
• when to add 'sectors' to a PE method; and,
• how to identify and deal with 'distorting supplies'.

www.hmrc.gov.uk/menus/frame-hei-march11.pdf

3.2. Updates to HMRC manuals

HMRC has updated its VAT partial exemption manual at pages:

PE5140 – re knowledge transfer partnerships

PE4830 – to take account of the standard method override.

www.hmrc.gov.uk/manuals/pemanual/updates/peupdate090311.htm

4. TAX PUBLICATIONS

Tax factsheet: iXBRL filing company tax returns & accounts - March 2011

This factsheet describes options for meeting iXBRL filing requirements for company tax computations and accounts, that the come into effect from 1 April 2011.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.