UK: Weekly Tax Update - Monday 08 August 2011

Last Updated: 17 August 2011
Article by Richard Mannion

1. GENERAL NEWS

1.1. Discovery assessments – conditions to be met

The First-Tier Tax Tribunal has considered the case of Dr Michael Charlton and Others (TC01317) and helpfully clarified the implications of the decision in the Veltema case. However the Veltema decision has been heavily relied on by HMRC and so this case may well be appealed.

In this case a number of clients of a firm of accountants had participated in a tax avoidance scheme. It appeared that all individuals had made detailed disclosures in their tax returns about the scheme and had shown the DOTAS scheme reference number. In the majority of cases HMRC commenced enquiry proceedings before the deadline. However in 3 cases, including Mr Charlton, they failed to do so. On discovering the oversight later HMRC sought to raise discovery assessments on the grounds that whilst the returns included factual details of the scheme they did not flag up that there was an actual insufficiency in the return which was what the judge in the Veltema case had said was necessary to prevent a discovery assessment.

The judges found that the necessary requirements that would enable HMRC to raise a valid discovery assessment were not satisfied saying:

"108. In Veltema the return gave no indication of what asset had been transferred, what it was worth and whether it might have been worth more than Ł100,000. Whilst there are a number of references in Lord Justice Auld's judgment to the requirement that the return must disclose that there was an actual insufficiency disclosed by the return, it was abundantly clear that all these references referred to the fact that it was the inadequate information that occasioned the doubt as to whether there was in fact an under-assessment. The whole feature that the case revolved around the interpretation of sub-section 29(6) and the feature that that subsection refers only to the factual information deemed to be available to the notional officer in considering the sub-section 29(5) test makes this absolutely plain.

118. We first observe that the reason why an enquiry was not opened in relation to the tax returns of the three Appellants was not because any Inspector looked at the returns and missed points, but was due to administrative slip-ups, such that no-one of the appropriate seniority would have even looked at the three returns. HMRC admitted that there had been such slip-ups.

119. Anticipating the findings of fact that we are going to reach, we are going to conclude that:

"it was absolutely obvious from the information given in the white spaces of the returns, that the three Appellants had participated in artificial tax avoidance schemes to generate capital losses; and

the disclosure of the SRN reference number for the scheme, and the fact that the scheme had been implemented in the then current tax year, not only reinforced the point that the transactions were effected as part of a marketed tax avoidance scheme, but they also indicated that full disclosure would have been made to HMRC specialists of the workings of the scheme. From this information, it would have been obvious to any officer that those officers receiving the DOTAS disclosures in the AAG1 would have considered the scheme with those in HMRC responsible for the specialist areas in question, and a view would already have been reached as to whether (i) the scheme might be challenged successfully under existing law; or (ii) whether a change in legislation was required, or (iii) whether the planning was considered reasonably acceptable such that neither (i) nor (ii) was appropriate.

120. We have already suggested, in paragraph 115 above, that where the notional officer, or even the distinctly above average officer, might well not have been expected to perceive doubtful matters of tax law in relation to the type of situation canvassed in that paragraph, it would not be appropriate to expect the officer to question the return unless doubt was expressly drawn to the officer's attention in the return. Absent such a "flag" in the return, the officer could also not be assumed to have sought guidance from others into a matter that anyone could have missed. The fact that remote specialists within HMRC might have readily appreciated that the legal basis, on which the self-assessments had been submitted, were challengeable would be completely irrelevant. Thus in that situation, sub-section 29(5) protection might only be secured if the points were aired or flagged in some way by the return.

121. Where, however, as in this case, no officer could conceivably have missed the points made by the bullet points in paragraph 119 above, it is inevitably the case that the officer would either have considered the law himself or, more appropriately still in the light of seeing the SRN reference number, he would have sought guidance from specialist colleagues, who he would have known would have considered the scheme in depth. And he would consider their views before deciding whether or not assessments were justified.

122. We consider that the ban on raising further enquiries about the facts, implicit in the Court of Appeal's decision in Veltema, and indeed in sub-section 29(6), has no bearing on how we should expect the notional officer to approach his proper task of then considering the information and deciding whether or not he should raise assessments. And if it is glaringly obvious either that the relevant officer should consider the law, and possibly refer to published material or, where an SRN number is disclosed, simply send an e-mail or make a phone call to colleagues and ask for guidance, this is precisely how we should treat the notional officer as proceeding.

123. This approach does not fall into the error of attributing to the "notional average officer" the views and knowledge of specialists as such. It only has this effect in those cases where any officer would inevitably seek guidance, and indeed know precisely where to seek that guidance. It simply deems the notional average officer to approach matters realistically, as HMRC would inevitably expect him to operate, and it avoids the absurdity of consigning the officer to his dark room, without legislation, books or other information, and with no opportunity to seek guidance from colleagues.

124. The above approach would have no bearing on the simple case where we would postulate the notional average officer taking his own decision on whether to assess. It simply suggests that one just considers what the notional officer should and would have done in the relevant circumstances. It thus deals perfectly sensibly with the very simple cases, the distinct type of situation referred to in paragraph 115 above, and the manifestly obvious tax avoidance scheme that has already been disclosed to, and reviewed by, HMRC in this case. It deals with each in the appropriate way, and it avoids the consequence of HMRC's contention and acceptance that the test is crafted essentially for the simple scheme, and thus regrettably fails to work sensibly in a case such as the present case.

125. We are considering the proper application of subsection 29(5) in this case, and the issue of whether the test creates the right balance of fairness between HMRC and the taxpayer is entirely secondary. If we were to adopt the contentions and conclusions advanced in this case by HMRC, we cannot resist observing that a quite extraordinary imbalance would have been achieved between the taxpayer and HMRC. In this case the taxpayer has disclosed, with perfect accuracy, the essential features of the scheme, such that we understood immediately precisely what was involved. The notional officer might have been slightly slower in reaching such a conclusion, but could not have doubted that a very artificial scheme had been implemented. Equally clearly that scheme had been disclosed to HMRC under the DOTAS rules."

www.bailii.org/uk/cases/UKFTT/TC/2011/TC01317.html

1.2. HMRC interest calculator

The HMRC website now has an interest calculator facility. This was designed for the Plumbers Taxsafe 'amnesty', but it appears that this will have wider application.

www.hmrc.gov.uk/trades-disclosure/interest-penalties.pdf

1.3. Tax Treaties Anti-avoidance - Technical note and draft legislation

The Government announced at the Budget on 23 March 2011 that it intended to introduce legislation in Finance Bill 2012 to counter avoidance schemes that exploited the provisions of double taxation agreements (DTAs). It has now published two sets of draft legislation for Finance Bill 2012, one relating to UK residents and the other to non-UK residents.

Overview of the legislation

1. The purpose of the draft legislation is to ensure that individuals, companies and other persons cannot benefit from the provisions of a DTA where the claim to such benefit is part of an arrangement whose main purpose is to reduce a liability to UK taxation. The draft legislation contains separate measures dealing with tax avoidance by UK residents and non-UK residents.

2. The effect of both measures is that a provision of a DTA will not limit the right of the UK to tax income or gains where certain conditions are met.

UK residents.

3. The proposed legislation is intended to reinforce the principle that, except in narrow and explicit circumstances (for example articles dealing with students or government service), DTAs do not restrict the right of the UK to tax its residents.

4. The proposed legislation will apply where a DTA makes provision that income, profits or gains of a UK resident are either not subject to UK tax, not to be subject to UK tax at a rate exceeding the rate specified in the DTA or not to be treated as income, profit or gains of a UK resident and chargeable to UK tax.

5. Where certain avoidance conditions are met, the proposed legislation will apply such that the provision in the DTA will not prevent the income, profits or gains either being charged to UK tax, being charged to UK tax at a rate exceeding that specified in a DTA or being treated as the income, profits or gains of the UK resident and chargeable to UK tax.

6. The avoidance conditions are that:

  • A scheme is put in place by one or more persons;
  • The provision would not apply to the income, profits or gains in the absence of the scheme; and
  • The main purpose, or one of the main purposes, of a person in putting the scheme in place is to ensure that the provision does apply to the income, profits or gains.

7. The reference in paragraph 3 above to residents means residents for DTA purposes. However, for the purposes of the draft legislation, the meaning of UK resident is based on UK law. As a result a person resident in both the UK and another state for the purposes of their domestic tax laws, but resident in the other state for the purposes of the DTA it has with the UK, will still be a UK resident for the purposes of the proposed legislation. This is to prevent UK residents manipulating the residence tie-breaker provisions in the UK's DTAs – for example by moving their permanent home overseas for a short period in order to avoid UK tax on income or chargeable gains but without ever losing their UK residence. We recognise that the definition of UK resident may need to be revisited in the light of the outcome of the consultation on the introduction of a statutory residence test.

8. The proposed legislation will apply to all income arising on or after the date of enactment, and to chargeable gains accruing from disposals made on or after the date of enactment.

Non-UK residents

9. The purpose of the proposed legislation is to ensure that non-UK residents cannot use a DTA to reduce their liability to income tax on UK source income unless that reduction is properly due under the DTA. In practice, this means that it will counter what are sometimes referred to as "treaty shopping" arrangements. Such arrangements are employed by persons resident in a foreign country to reduce their liability to UK income tax by accessing the benefits of a treaty between the UK and a third country.

10. The proposed legislation will apply where a DTA makes provision that specified categories of income will not be subject to income tax in the UK, or will not be subject to tax at a rate exceeding the rate specified in the DTA, and certain avoidance conditions are met.

11. These conditions are that:

  • A scheme is put in place;
  • The provision would not apply to the amount of the income in the absence of the scheme; and
  • The main purpose, or one of the main purposes, of a person in putting the scheme in place is to ensure that the provision does apply to the amount of the income.

12. Where it applies, the draft legislation provides that the DTA will not limit the income tax that can be otherwise be charged on the relevant income under the Taxes Acts.

13. The proposed legislation will only apply to UK source income that is described in a DTA as dividends, interest or income from debt-claims, royalties or income falling within the Other Income article of a DTA (i.e. income about which no specific provision is made in a DTA). The question whether income has a UK source is decided on the basis of the terms of the relevant DTA.

14. The proposed legislation will apply to all income arising on or after the date of enactment regardless of when the DTA was made or the scheme was put in place.

www.hmrc.gov.uk/drafts/dta-avoidance-tech-note2.pdf

1.4. HMRC Spotlight 11: Avoiding income tax on pay

The following statement was originally issued by HMRC on March 2011 and has now been added to the list of highlighted tax avoidance schemes:

"We are aware that people who have used employee benefit trusts (EBTs) etc to avoid tax on employment income are being targeted with products designed to shelter funds in current schemes from the effect of planned legislation. These arrangements rely on the availability of credit for loan repayments made before 6 April 2012. In HMRC's view while these convoluted arrangements seek to weave a way through the legal changes they do not succeed. Even if they did HMRC would still challenge them as delivering remuneration which should have been subject to PAYE from first principles.

Subject to parliamentary approval, the new legislation will be effective from 6 April 2011 and some aspects of the proposed new law will apply from 9 December 2010. These changes are designed to prevent the avoidance of PAYE and national insurance contributions on employment income.

Individuals considering entering into such income tax avoidance arrangements should be aware that HMRC will pursue people who seek to avoid tax on monies they earn, through the courts where necessary."

www.hmrc.gov.uk/avoidance/spotlights.htm

2. PRIVATE CLIENTS

2.1. Howard Peter Schofield v Revenue and Customs Commissioners

The Upper Tribunal have dismissed the taxpayer's appeal against the decision of the First Tier Tribunal (reported in Tax Update on 1 June 2010). The case involved a tax scheme involving options which were interlinked and had no separate existence. The scheme was planned as a single continuous operation and there was no overall loss arising from the whole transaction. The judgement includes the following analysis:

"In the present case, the question whether there is a gain or loss can, at a high level, be considered in relation to the scheme as a whole. It must be accepted, as we do, that the precise outcome of the scheme could not be known in advance. But, as we have explained, there were only three possible outcomes if the scheme was to run its course as intended. It was possible that there would be a modest profit or a modest gain for Mr Schofield and it was certain that he would have to bear the fees of the exercise. But, again for reasons already discussed, there was no real risk to him. He was not required himself to fund the scheme; and the prospect of his being able to fund out of his own assets the purchase of the gilts which, in the events which happened, he had to acquire is fanciful. It was a racing certainty that he would become non-resident prior to and for the tax year 2003-04. And Mr Goldberg accepts, as he must, that the scheme was entered into in the hope of mitigating Mr Schofield's tax liability. Indeed, the findings of the Tribunal went rather further: the sole aim of the transactions was to avoid tax and the transactions were bereft of a commercial purpose.

Viewing the scheme at this high level, Mr Schofield suffered no real commercial loss. On that approach, HMRC should succeed in defeating Mr Schofield's claim to the allowable loss which he originally included in his self-assessment. Further, on that approach, it is no more difficult to ignore the Options in the present case than it was to ignore the two loans in Ramsay. The fact that actual assets are created in the real world – the Options and the obligations under the loan contracts – is not of itself sufficient to defeat HMRC's case."

www.bailii.org/uk/cases/UKUT/TCC/2011/306.html

2.2. The Executors of David Atkins deceased v Revenue & Customs [2011] UKFTT 468 (TC)

Mr Atkins was a Lloyds name until his death. The legislation provided that the release of funds held in reserve should be added to the income of the deceased in the last full tax year of his life at his top rate of tax. However there would inevitably be a delay in sorting out the release of the reserve which raised an issue with self assessment deadlines. HMRC had an established procedure for dealing with this issue which required the taxpayer's representative to prepare the tax return for the last tax year prior to death in the ordinary way and for HMRC to "open an enquiry" into those returns and leave that enquiry open until the ultimate fate of the amounts held in reserve had been resolved.

The Executors followed this procedure but HMRC failed to open an enquiry before the relevant deadline, even though the Executors' agent had reminded them.

In March 2010 the whole of the Special Reserve Fund, together with accrued interest, was released to the Executors and this was almost immediately disclosed to HMRC.

In due course HMRC issued a discovery assessment, and considerable work was undertaken by the Executors' agent in preparing an appeal against that assessment. HMRC withdrew its assessment shortly before the hearing and the Executors claimed costs against HMRC.

The judge found against HMRC saying:

"It seems to me that the return in this case was made precisely in accordance with the Guidelines published by HMRC as to how executors should prepare the last relevant return for the deceased "name" at Lloyds. The problem in this case results entirely from the way in which HMRC have themselves failed to act in accordance with their own Guidelines in failing to open an enquiry into the relevant return. This was perceived to be the way in which the return would be kept open in order to be adjusted when any amounts might later be released from the Special Reserve Fund."

www.bailii.org/uk/cases/UKFTT/TC/2011/TC01318.html

3. BUSINESS TAX

3.1. OTS Consultation – Disincorporation of small companies

The Office of Tax Simplification has published a discussion paper on the possibility of facilitating the disincorporation of small companies. The focus of this paper is on those businesses which are not operating through their optimal business structure and who are incurring extra red tape and costs for little additional benefit.

This is a subject which has been raised a number of times before and the interest has been reawakened by the large number of very small businesses that incorporated in order to obtain the benefits of the nil rate of corporation tax between 2002 and 2006. However as the paper indicates many of those small companies could disincorporate under existing rules without any adverse tax consequences and so at this stage it is not clear what demand there would be for a disincorporation relief for those smaller companies.

There probably would be interest from a number of larger businesses where the proprietors would now prefer to trade as a LLP, a medium that was not available prior to 2000. However it appears that any new relief will be restricted to smaller companies, which suggests that the drafting of the legislation would need to be complicated in order to restrict its application.

Extracts from the discussion paper are set out below:

"This paper considers whether there is a need for a disincorporation relief, or a package of reliefs, as well as looking at possible forms for the relief. It is a discussion paper to bring together previous considerations and examine the level of demand for such a relief at the present time. It is not a recommendation from the OTS for the introduction of a disincorporation relief.

There is a concessionary form of disincorporation relief available through extra-statutory concession C16, which allows companies a simplified striking off procedure without the need for a formal liquidation. HM Revenue & Customs ("HMRC") is consulting on the best way to replace this concession with a view to legislation in 2012. The OTS is following this consultation with interest and is discussing with HMRC how best to take into account any emerging conclusions from our review into a possible disincorporation relief.

The paper raises a complexity challenge: would the additional complexity of tax law caused by introducing a disincorporation relief outweigh the administrative and legislative simplifications for businesses taking advantage of the relief?

The paper also identifies a potential issue with eligibility: what sort of companies would qualify for a disincorporation relief? The OTS has proceeded on the basis that any relief would be available to companies carrying on a trade; but how far should any such relief be extended to companies with other businesses, such as property investment companies?

The matter has been considered previously in 1987, 1990, 1993, and 1996. In March 2000 the Paymaster General stated that there would need to be a very strong case for a disincorporation relief due to the length and complexity of the legislation required, and that, following representations, "no strong case for change has so far emerged".

The matter was raised in the debate on the 2008 Finance Bill, but this is the first paper since then to consult on the issues in order to gauge demand for the introduction of a new relief to facilitate disincorporation.

Operating through a limited company brings more regulation, greater administrative burdens and higher professional costs. On the other hand, advantages of operating through a limited company include greater prestige for the business, the availability of limited liability, a greater ability to raise money for capital investment and more flexibility in selling the business. In practice however, many businesses do not need these benefits, especially if they do not wish to grow, invest or borrow.

A complicating factor is that tax is currently a major consideration in deciding whether or not to operate through a company. Many businesses will want to continue operating through corporate structures because of the tax and national insurance advantages, which often outweigh the additional burdens and costs of operating through a company. However, there are some small businesses for whom the additional burdens and costs outweigh the tax and other benefits. For such businesses the ability to revert to operating as sole traders or partnerships might provide long term simplification.

There are tax reliefs for businesses that incorporate, but no equivalent provisions exist allowing for disincorporation without a tax charge. Disincorporation relief could provide broadly equivalent provisions to those that allow incorporation without an immediate tax charge (e.g. by rolling or holding over the chargeable gain), and would provide a form of symmetry of taxation as businesses move to the legal framework that is most appropriate.

The OTS has identified three main situations where a disincorporation relief might be desirable:

  • The company with little or no value in capital assets, probably a one person operation, which could carry on as a sole trader.
  • A slightly larger business, perhaps husband and wife or wider family, which has goodwill and so may benefit from a narrow form of relief, ensuring a tax neutral transfer across to the disincorporated trade, probably continued as a partnership.
  • A larger company with capital assets as well as intangible assets may need a wider form of relief, to enable a claim to hold-over the chargeable gains on transfer of the assets to the disincorporated trade, which may be carried on as an LLP or as an unincorporated business or partnership.

There are also capital gains tax issues for the shareholders in all cases, though only in the last situation are these likely to be significant.

The question whether a business would be better off from a tax perspective by operating through a limited company has been posed to advisers for many years. With changes in tax rates, the answer fluctuates and the eventual recommendation to the business normally depends on circumstances, intentions and more than simple tax numbers. However, in recent years, the pure tax answer has usually been that incorporation offers a lower tax bill. The main differential is through dividends not being subject to NICs.

There was a huge rise in tax motivated incorporations for the smallest businesses following the introduction of the 10% "starting rate" of corporation tax in 2000 and, more significantly, its subsequent reduction to 0% in 2002.

The decision to incorporate can be driven by factors away from tax savings or administrative burdens. A company can issue shares – offering the possibility of giving an interest to some employees that falls short of a partnership. A company is often seen as having more permanence and prestige, thus offering an intangible advantage in business. Very importantly in the contracting world, a company offers 'insulation' for the larger businesses that hire the freelancer/contractor against employment rights claims and against possible HMRC claims that the individual was in fact an employee rather than self-employed. Freelancers and contractors sometimes have no choice but to incorporate, as many employment agencies only place incorporated work seekers.

The OTS has not found any current survey evidence to assess whether there is a desire for companies to move back to unincorporated status, and if so, what the barriers are.

The main tax consequences for a small company transferring its business to its shareholders are likely to be a charge to corporation tax on the transfer across of intangible assets such as goodwill, (whether under the intangible assets regime or a chargeable gain on pre-April 2002 goodwill) and a chargeable gain on other chargeable assets; whilst capital gain rollover provisions exist where a business incorporates, there are no equivalent provisions that apply when a business disincorporates.

Additionally any trading and other losses will be lost, although the company may be able to utilise terminal loss relief, so that the loss from the last accounting period can be set against profits for previous accounting periods.

Normally where a company's assets are transferred to its shareholders for no consideration then the market value of the assets is taxable on the recipients as an 'income distribution'. If the company is formally wound up, then any distribution by the liquidator to shareholders is taxable on the recipients as a capital distribution, which is charged to capital gains tax. Entrepreneur's relief would be available in the case of small trading companies, so the gain would be taxed at 10%, subject to certain qualifying conditions.

For capital allowances purposes, a writing down allowance is not available in the accounting period of a company in which a trade ceases. Instead, a balancing allowance or charge arises. However, a joint election between the company and the shareholders continuing the trade will enable a tax neutral transfer at tax written down value to take place.

Similarly, an election is already available to enable stock to be transferred on a tax neutral basis.

For a VAT registered business, if the transfer of going concern provisions apply, no VAT will be levied on the transfer and both parties may elect for the existing VAT registration to be carried over to the successor to the business.

For the Exchequer, if gains are rolled over, this will delay the crystallisation of the tax charge and will, on the surface, result in a cash flow disadvantage. However, in many cases the existence of such a potential tax cost would preclude any action that might crystallise the tax charge.

Before considering potential features of a disincorporation relief, consideration must be given to which companies may benefit were such a relief to be introduced, to ensure that the measure is properly targeted and opportunities for abuse are minimised.

Some examples of companies that may benefit from a disincorporation relief are as follows:

  • Businesses that incorporated for tax reasons and now find that the administrative burdens outweigh the tax benefits. It would remove a barrier allowing businesses to be converted to the most appropriate form without tax implications, and would enable the businesses to focus on growing or running the businesses.
  • Sole traders who wish to incorporate may be reluctant to do so in the absence of a mechanism to disincorporate subsequently, allowing the business to operate through the most appropriate business entity. The lack of a disincorporation relief may therefore be a barrier to incorporation as businesses fear becoming trapped in the corporate form.
  • Incorporated businesses that wish to convert to a LLP, which may be the most appropriate structure for some growth or entrepreneurial businesses, which may wish to bring in partners into the business rather than use shares.
  • Established companies facing shareholder disputes or succession issues, where the business needs to be fragmented and remaining part(s) would be more suited to unincorporated status. Disincorporation may mean considerable chargeable gains arising both on the company, and the shareholders.
  • Long established companies holding significant capital assets, with reducing trading activity, but where the chargeable gains rules on the company and the shareholders prevent disincorporation.

As the rationale behind the relief would be to assist small businesses that had incorporated (whether or not for tax reasons) and are now having to comply with the additional administrative burden that incorporation involves, the target population is clearly a subset of small companies. Further definition of the companies to which this relief would attach is required to ensure that the correct population is being assisted.

The EU micro company definition would ensure that any relief would be more closely targeted at the population that it is intended to benefit, whereas the CA 2006 definition would make the relief available to a much wider population than might be desirable.

The five examples above of companies that may benefit from a disincorporation relief broadly fall into one of the two following categories:

  • Small companies with just one or two owner/manager(s). The company is likely to have few capital assets but there may be goodwill associated with the business that may or may not be reflected in the accounts.
  • Small companies with more than one shareholder/manager which have capital assets such as property or plant, and may also have built up goodwill over time, which may or may not be reflected in the accounts.

It is possible for a company in category 1 to (in effect) disincorporate with no tax barrier using ESC C16. If there are no assets transferred to the shareholders then there is no chargeable gain on the company.

The transactions in securities anti-avoidance legislation would not normally apply to commercial disincorporations.

The following options are put forward:

Option 1 – Narrow form of capital gains relief

A possible narrow form of disincorporation relief might be to allow the goodwill arising on the transfer of a business to be transferred from the company to the shareholder(s) carrying on the successor business at a value that would not give rise to a corporation tax charge on the company. The goodwill would then eventually be chargeable to capital gains tax on the person(s) running the successor business when they disposed of it.

For pre-April 2002 goodwill, a chargeable gain (using market value at transfer, but allowing for indexation relief) is currently chargeable to corporation tax. Here a possible narrow form of disincorporation relief might be to allow a hold-over of the gain into the new business. To simplify the administration, consideration should be given to HMRC using the approach outlined in Statement of Practice 8/92 where market value at disposal need not be agreed with HMRC in certain circumstances where holdover relief is available. An alternative approach would be for the shareholder(s) to be deemed to acquire the assets at a value producing no gain or loss.

If the goodwill is acquired by the shareholder(s) for no consideration then there would be potential income tax liabilities under company distribution and employee benefit rules that would need to be considered in designing a relief.

Valuing goodwill is complex, so ideally any proposal for a disincorporation relief should not require this.

Option 2 – Wider form of relief

Chargeable gains on assets – on incorporation TCGA 1992 ss 162 and 165 provide a deferral for gains on tangible assets transferred to the company, the rationale being that the economic interest in the assets is the same before and after the transfer and so to impose a tax charge would be inequitable . A similar deferral relief is proposed for disincorporation under which chargeable gains arising to the company on the transfer of assets to the individual is rolled over against the acquisition cost of assets in the shareholder's hands. An alternative approach would be for the shareholder(s) to be deemed to acquire the assets at a value producing no gain or loss.

Goodwill and intangible assets – the narrow relief under option 1 would apply here.

Tax treatment of shareholders – the shareholders will potentially have gains arising on the capital distribution by the company, unless income distribution rules apply, possibly through HMRC successfully applying the transactions in securities legislation. To eliminate the second layer of taxation at the shareholder level, it is proposed that this gain be deferred until the former shareholders dispose of their interest in the successor business.

Clearly there is scope here for substantial gains to be deferred with the risk that the tax due would never be paid. The risk of this procedure being abused would need to be protected against if it is taken forward, so some anti-avoidance provisions would be needed, or at a minimum a 'bona fide commercial purpose' test.

In addition to the chargeable gains arising on disincorporation, some companies in the second category, and other long established companies may encounter other tax issues, such as capital and trading losses, benefits in kind, and stamp duty land tax.

Transactions in securities – The provisions of ITA 2007 Part 13 Ch. 1 will not normally apply to ordinary disincorporations. Consideration is given in the next chapter as to whether there is a need for anti-avoidance legislation to prevent unintended behaviours.

If assets are passed to shareholders for no consideration, a benefit in kind charge will currently arise on the shareholder, if he or she is also a director or higher paid employee, based on the cost to the company, unless this is already treated as an income distribution. This needs to be eliminated, on the basis that the future use by the shareholder will produce taxable income."

3.2. Substantial Shareholding Exemption: joint ventures and entities without ordinary share capital

HMRC has issued Brief 29/11 which sets out its view of two related aspects of the Substantial Shareholding Exemption that can cause uncertainty as to whether a company is a 'trading company' or the holding company of a 'trading group' or 'trading subgroup' (the remainder of this note will only refer to a group for brevity).

The Substantial Shareholding Exemption in Schedule 7AC Taxation of Chargeable Gains Act 1992 contains a special rule for dealing with the activities of certain joint venture companies when considering whether a group is a trading group.

The rule provides for an apportionment of the activities of a company that falls within the definition of a 'joint venture company' set out in paragraph 24 of the Schedule.

HMRC is aware that some groups and their advisers take the view that the existence of this rule means that any investment in a joint enterprise that does not fall within the definition of a 'joint venture company' will necessarily be treated as a non-trading activity when assessing whether a group is a 'trading group'.

HMRC does not agree with this analysis. Where a group has an interest in a company that does not fall within the definition of a 'joint venture company' then whether that represents part of the group's overall trading activities or constitutes a separate investment activity will be a question of fact and depend on the circumstances of the case. Where, for example, the effective management of the joint enterprise is closely integrated with that of the group and it conducts a trade that is similar to or complements that of the wider group, then that would suggest that group's involvement in the enterprise does not represent a separate non-trading activity.

Similarly, a group would not automatically be regarded as having a non-trading investment activity because it has an interest in an entity that does not have issued share capital (and therefore cannot form part of a capital gains group for these purposes). For example, a major UK-based retail group may open a large number of stores in Laputa, using a wholly owned corporation that does not have share capital (reflecting the local company law). The facts would suggest that the venture is part and parcel of the general trading activity when considering whether the overall group is a 'trading group' for the purposes of the exemption.

The Capital Gains Manual will be updated to reflect the contents of this Brief.

3.3. Research & Development – definition of production

Following recent consultations on a review of R&D tax credits, the government decided not to introduce a statutory definition of 'production', but instead to issue improved guidance on use of the term in an R&D context. HMRC has now issued a draft of the relevant amendment to the CIRD Manual and comments are invited by 30 September 2011.

www.hmrc.gov.uk/consultations/production-guidance.pdf

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.

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Richard Mannion
 
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Terms & Conditions and Privacy Statement

Mondaq.com (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

Use of www.mondaq.com

You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about Mondaq.com’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.

Disclaimer

Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.

Registration

Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

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Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

If you do not want us to provide your name and email address you may opt out by clicking here .

If you do not wish to receive any future announcements of products and services offered by Mondaq by clicking here .

Information Collection and Use

We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to unsubscribe@mondaq.com with “no disclosure” in the subject heading

Mondaq News Alerts

In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.

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A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

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We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.

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This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

Surveys & Contests

From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.

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If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.

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This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to webmaster@mondaq.com.

Correcting/Updating Personal Information

If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to EditorialAdvisor@mondaq.com.

Notification of Changes

If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

How to contact Mondaq

You can contact us with comments or queries at enquiries@mondaq.com.

If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at problems@mondaq.com and we will use commercially reasonable efforts to determine and correct the problem promptly.