UK: Weekly Tax Update - Monday 23 January 2012

1. PRIVATE CLIENTS

1.1. Pre-Owned Assets Tax

Smith & Williamson recently sent a Freedom of Information request to HMRC regarding the Pre-Owned Assets Tax (POAT) as follows:

We note the revised POAT guidance recently published on the HMRC website. However that revised guidance does not disguise the fact that this tax is an extremely complex area of potentially wide ranging anti-avoidance which ordinary taxpayers are likely to find impenetrable. We are also of the opinion that few tax specialists, either within HMRC or in the profession, are likely to be sufficiently familiar with the rules to ensure it is operated properly and effectively.

We would like to clarify how effective this anti-avoidance is in its current form and as currently implemented in practice. If not effective in its current form we would have thought there should be a reconsideration of the extent of abuse against which it is targeted and whether this can be counteracted by more tightly targeted avoidance rules.

Please let us know:

• How much tax was collected under the POAT rules in the last three years for which details are available?
• What were HMRC's annual costs expended in policing the POAT system in each of those years?
• How HMRC estimates the amount of tax collected as a result of avoidance not taking place due to the threat of the POAT system, and the quantification of this tax for the last three years?
• What alternative methods were considered to plug the perceived gaps in the IHT legislation at the time that POAT was being developed?

HMRC has now replied as follows:

"Freedom of Information Act 2000

I am writing to advise you that following a search of our paper and electronic records, I have established that HMRC does not hold the information you requested, with one exception.

The Self-Assessment Return includes a box which shows how much income is associated with income declared under the POAT rules. The last three years income data available is as follows:

However, we are unable to attribute the actual tax paid on this income as the overall tax is calculated on aggregate income after allowing for the effects of thresholds and reliefs. To determine the actual amount of tax payable on the POAT element would require us to review each individual Return. Insofar as this exercise would require skill and judgement, the figures you are seeking are not held by HMRC."

It appears from this somewhat disappointing response that firstly no-one knows why we ended up with a horrendously complicated income tax charge to fill a gap in the IHT legislation and secondly POAT only produces approximately £3m extra tax a year.

1.2. Life assurance deficiency relief

The Labour Government, in its last Budget (March 2010), announced that following the introduction of the new additional rates of income tax it intended to introduce legislation in the next Parliament, effective from 6 April 2010, to allow life insurance deficiency relief at the additional rate (and dividend additional rate).

The incoming Coalition Government however decided not extend life insurance deficiency relief to the additional rates of tax. Instead the deficiency relief rules continue to only reduce tax due on income subject to the higher rate and dividend upper rate of tax only.

Life insurance deficiency relief continues to be a tax deduction made only on the difference between the dividend upper (32.5%) and dividend ordinary (10%) rates of tax and, to the extent that the deficiency exceeds such income so charged, then at the difference between the higher (40%) and basic (20%) rates of tax.

The legislation says the tax reduction for deficiency relief is based on the amount of income liable at the dividend upper rate and then the higher rate. As there is no mention of income at the dividend additional rate or additional rate, what happens with a 50%/42.5% taxpayer with a loss greater than the £115,000 difference between the upper and basic rate tax limits?

It should also be noted that there is no correlation between the tax paid on the partial surrenders when considering the amount of tax deduction available on a full surrender at a cumulative overall loss. This is particularly important in two regards:

• chargeable events are taxable as savings income whereas deficiency relief is matched against dividend income first, and;
• no account taken of whether the policy qualifies for the non-repayable 20% notional tax credit.

As the 50% rate appears to be with us for a while yet we await to see if there is anything in the 2012 Budget to adjust the life insurance deficiency relief rules.

2. PAYE AND EMPLOYMENT MATTERS

2.1. Reed Personnel and dispensation for travel and subsistence costs

Twelve Reed Group companies, engaged in supplying temporary staff as employment businesses, have lost an appeal in the First Tier Tribunal. The case concerned the tax treatment of payments made between January 2001 and April 2006 to temporary workers which initially were understood both by HMRC and the Reed companies to be travel and subsistence payments to employees. The original understanding was encapsulated in a dispensation so that payments were made gross to the workers. The First Tier Tribunal has agreed with HMRC, however, that the payments should have been subject to PAYE (with income tax deducted and accounted for and both employer's and employees' NIC accounted for). The amount at stake, including interest, is in the region of £158m and concerns payments made to around 500,000 workers from whom the Reed companies will be unlikely to be able to recover any of the costs.

The travel and subsistence scheme was set up by way of a salary sacrifice arrangement.

Eight issues were considered:

• Did the employed temps make an effective salary sacrifice? HMRC contended that if a salary sacrifice is to be effective for tax purposes (thus becoming an "effective salary sacrifice") the employee must actually agree to work in future for the reduced salary or wage, and the employer must provide some other benefit in a form which is not readily convertible into money. They contended that there is no effective salary sacrifice if all the employer does is pay a part of the employee's contractual salary or wage in some other form, in particular by meeting or purporting to meet some or other of the employee's expenses. In the view of the Tribunal a salary sacrifice implies reciprocity: the employee gives up a portion of earnings...in exchange for an identified benefit provided by the employer. The tribunal determined that despite the employee giving up a portion of salary, Reed did not provide reciprocity and retained a significant portion from the arrangement, so that it was not an effective salary sacrifice. In any event as the terms of the arrangement permitted the employees to opt out of the arrangement at any time, the Tribunal held the supposed salary sacrifice was not an effective salary sacrifice, and that this feature of the arrangement alone meant it was ineffective as a salary sacrifice.
• Were the disputed allowances within ITEPA chapter 1 earnings or chapter 3 emoluments? The Tribunal considered this on the assumption that an effective salary sacrifice had been made, and on this assumption preferred Reed's arguments concluding the dispensation payments were within chapter 3, being reimbursements of expenses already incurred. However, as they determined later that the workplaces were permanent, there could be no allowable travel expenses. Thus, as HMRC argued, the amounts would be within chapter 1. As the expenses were regarded as ordinary commuting expenses to a permanent workplace, the conclusion was therefore that chapter 1 applied.
• Were the workplaces temporary or permanent? The Tribunal concluded that each worker's assignment was a separate contract of employment and hence a separate contract of service for tax purposes, so that the travel was to a permanent workplace, was ordinary commuting, and was not tax deductible.
• Could HMRC lawfully grant the dispensations? The Tribunal concluded that HMRC could grant the dispensations lawfully and the dispensations were validly given until revoked, even though they may have given them erroneously.
• Did the dispensations cover the allowances? The tribunal concluded that the dispensations did not cover the allowances, as the allowances fell within ITEPA chapter 1 and could never be covered by a dispensation. However if the expenses fell within chapter 3 the Tribunal concluded that if HMRC were wrong in considering the listed provisions applied, then the dispensations had no effect. If they were wrong for any other reason, the dispensations had effect subject to HMRC's right of revocation.
• What was the effect of the dispensation? As the Tribunal had concluded the listed provisions did not apply and therefore the dispensations had no effect, the answer to this point was hypothetical. Where the listed provisions do apply the dispensation has effect, relieving the employer of the PAYE obligations altogether.
• Did Reed have a legitimate expectation based on the dispensations given? While the question of whether the First Tier Tribunal could determine a point on legitimate expectation is to be decided next at the Upper Tribunal, the First Tier Tribunal commented as follows. Reed and its management staff knew the travel allowance salary sacrifice schemes were risky, however, they did not actively conceal what was being done. The Tribunal thought that Reed and its staff were less forthcoming than they might have been, but concluded that both Reed and HMRC did not recognise the significance of some matters until a late stage.
• Was Reed obliged to make the PAYE deductions in the period in question? The Tribunal concluded that they were.
• Is the outcome for NIC the same as for PAYE? The Tribunal concluded the amounts would be subject to PAYE.

www.bailii.org/uk/cases/UKFTT/TC/2012/TC01727.html

3. BUSINESS TAX

3.1. Group and consortium relief through a non-UK resident link company

The group and consortium relief rules are now set out in CTA10 part 5. In relation to consortium relief the rules were changed following Finance (No 3) Act 2010 so that with effect for accounting periods beginning on or after 12 July 2010 if the link company in a consortium group relief claim is not UK related (a UK resident company or a UK trading PE of a non-UK resident company), it can be established in the EEA, provided it is a member of the same group of either the claimant company or surrendering company and that group relationship is not derived through a company not established in the EEA. (see CTA10 s133).

The changes apparently followed the First Tier Tribunal's decision in the case of Philips Electronics UK Ltd ([2009] UKFTT 226) where that company succeeded in claiming for consortium relief for its share of the losses of a UK permanent establishment of a joint venture between a dutch subsidiary of the Philips group and the LG Electronics Group.

It appears as though an appeal in November 2009 for a hearing in June 2010 at the Upper Tribunal by HMRC against the decision in the Philips case was cancelled. However that may be because questions concerning the case have been agreed and referred directly to the CJEU under case reference C-18/11. That hearing (due to be held on 16 February 2012) will consider the following:

• Interpretation of Art. 49 TFEU – Freedom of establishment – Tax legislation – Corporation Tax – Tax relief
• National legislation excluding the transfer of losses realised within the national territory by a permanent establishment of a non-resident company established in another Member State to a company established in the former territory but belonging to the same group

http://curia.europa.eu/juris/fiche.jsf?id=C%3B18%3B11%3BRP%3B1%3BP%3B1%3BC2011%2F0018%2FP&pro=&lgrec=en&nat=&oqp=&dates=&lg=&language=en&jur=C%2CT%2CF&cit=none%252CC%252CCJ%252CR%252C2008E%252C%252C%252C%252C%252C%252C%252C%252C%252C%252Ctrue%252Cfalse%252Cfalse&num=c-18%252F11&td=ALL&pcs=O&avg=&mat=or&jge=&for=&cid=121326#section_documents

So it appears that the matter is not yet fully settled. Looking back at the Philips decision and the Finance (No 3) Act 2010 legislation, it seems odd that the legislation was not made retrospective, as taxpayers could make claims for accounting periods beginning before 12 July 2010 on the basis of that case. In addition the restriction in the Finance (No 3) Act 2010 changes placed on the link company, that it must be a member of the same group as either claimant or surrendering company where that group relationship is not established through a non-EEA established company, was not a part of the Philips case and appears contrary to the principle of freedom of establishment. This is also despite the fact that since 2000 it has been possible to establish a 75% group relationship for UK group relief purposes through a holding company without restriction on where that holding company is located. The restriction before 2000 was in any case held to be ineffective in the case of a US holding company and the application of the UK/US double tax treaty in the case of FCE Bank plc (see Tax Update 24 October 2010 and [2010] UKFTT 136 (TC)).

The issues have come up again in the case of claims for consortium relief by UK companies in the Hutchison Whampoa Group (see Tax Update 16 January 2012).

www.financeandtaxtribunals.gov.uk/judgmentfiles/j6066/TC01674.pdf

www.financeandtaxtribunals.gov.uk/judgmentfiles/j6066/TC01674A.pdf.

That case has referred questions to Europe that include a specific question on whether the EU freedom of establishment principles apply to EEA established companies in relation to UK consortium relief claims, where the group relationship is established through companies not resident in the EEA. The case concerns the following group structure (simplified for the purposes of this summary):

The claimant companies claimed consortium loss relief from Hutchison 3G UK Ltd during the period from 26 April 2002 to 23 June 2005. However HMRC refused the claims as the consortium group relationship was held through a non-UK resident company that did not have a UK permanent establishment. This has led to the referral to the CJ EU. There were two other main differences of opinion between the claimants and HMRC and these were (as covered in last week's Tax Update):

• To what extent does Article 26 of the UK/Luxembourg double taxation convention (the non-discrimination article) impact upon the Applicants' claims for group relief? ("the DTC question")?
• The Tribunal determined that the double tax treaty did give access to loss relief, concluding as follows:
• 1. By reason of its inability to surrender its losses to the Applicants, the Surrendering Company was subjected to "any taxation or other requirement connected therewith" within the meaning of Article 26(4) of the DTC.
  2. That inability to surrender losses arose solely on the ground that the Surrendering Company was indirectly owned by a company (Investments) which was resident in Luxembourg, and not resident in the UK.
  3. Section 788 ICTA has the effect of enabling the Applicants to obtain relief for losses surrendered by the Surrendering Company (subject to [ICTA] s 410).
• What is the impact, if any, of section 410 ICTA [on] the claims made for group relief in the periods up to 22 June 2005? ("the section 410 question").

Here the Tribunal concluded on the facts of this case that arrangements were in place for the transfer of the company that would prohibit relief for the period 7 November 2003 to 22 June 2005 inclusive.

In relation to the double tax treaty question, the Upper Tribunal decision in the FCE Bank case was mentioned and HMRC made the point that they do not accept that that decision is correct.

In relation to the s410 question, this concerned an arrangement HWL had entered into on 7November 2003 with DoCoMo and KPNM to buy their respective 20% and 15% interests in Hutchison 3G UK Holdings Ltd. HWL's rights under the agreement were exercised on 23 June 2005 when Hutchison 3G UK Holdings Ltd became a wholly owned subsidiary of HWL. From that point onwards group relief claims were possible. HWL's team claimed that the provisions in s410 (now in CTA10 s154-156) were aimed at countering avoidance and parliament could not have intended that they apply to commercial arrangements such as the one they had entered into. However Counsel for HMRC pointed out that there was no avoidance filter in the provision and that the provisions applied on an all or nothing basis. He also pointed out that to interpret that legislation otherwise would open up the group consortium relief legislation to the abuse it was intended to prevent – which was to prevent the temporary introduction of a loss making group into one group from another in order to utilise the group loss relief provisions. As noted above the Tribunal determined in favour of HMRC on this point.

3.2. Updates to HMRC Manuals

HMRC has updated their manuals as follows:

• Double tax relief manuals (www.hmrc.gov.uk/manuals/dtmanual/updates/dtupdate130112.htm) – principally for changes to the agreement with Germany.
• Offshore funds manual – this has now been published (www.hmrc.gov.uk/manuals/ofmanual/index.htm).

4. VAT

4.1. Cross Border VAT and the one-stop-shop

The EU issued the following press release on 13 January:

Doing business in more than one Member State often means dealing with several tax administrations in different languages. Dealing with multiple VAT obligations can be very burdensome and costly for companies. The proposal adopted today is a first step towards a One Stop Shop for all electronically delivered services that will benefit businesses as from 1st January 2015. As set out in last December's Commission Communication on the future of VAT (see IP/11/1508), the One Stop Shop approach for EU trade across borders will be applied first to e-commerce, broadcasting and telecom services. In the future the Commission will seek to extend the One Stop Shop step by step to other goods and services.

Algirdas `emeta, Commissioner for Taxation, Customs, Anti-fraud and Audit said: "The complexity of the current EU VAT system is an obstacle to doing business in the Single Market. The One Stop Shop will greatly facilitate cross border expansion of European start ups. This in turn will help to generate growth and jobs". The recently adopted Communication on the future of VAT has stressed that a fully developed One Stop Shop (OSS) – a measure proposed in the Commission's plan to reduce the administrative burdens − is a high priority.

The proposal today relates to aspects such as the scope of the scheme, reporting obligations, VAT returns, currency, payments, records and so on for which common rules are necessary. The implementation on 1st January 2015 of a mini One Stop Shop for the EU providers of telecommunications, broadcasting and electronic services to consumers will be a big step forward in simplifying VAT compliance rules in the EU. The One Stop Shop will allow businesses to declare and pay the VAT in the Member State where they are established rather than where their customer belongs. The One Stop Shop system that is currently limited to non-EU providers of electronic services is being extended to EU businesses and to broadcasting and telecom services. In the future the intention is to extend the One Stop Shop to even more activities, including supplies of goods. The proposal adopted today by the Commission is a first step in an extensive work programme which will lead to the timely and successful implementation of the new scheme. The Commission calls on all Member States to agree to these measures in 2012. A common approach is key to design the IT systems which will provide the necessary exchange of information between tax authorities in 27 Member States and to ensure its full implementation by 2015.

Background

Since July 2003, a One Stop Shop system has been in place to simplify VAT obligations for non-EU suppliers of electronic services to EU consumers (see IP-04/1331). The system has functioned well, allowing non-EU traders who are liable to pay VAT in the EU to choose a single place for VAT compliance. Via this single electronic portal, a single VAT declaration and payment is submitted. On the basis of the information supplied, this payment is allocated automatically to the different Member States where VAT is due.

On 1 January 2015, the VAT rules on the place of supply of services will change for companies supplying telecommunications, broadcasting or electronic services to EU customers. The VAT becomes due where the customer belongs. This makes it necessary to broaden the current scope of the existing One Stop Shop system. Currently, a scheme is already in operation for non-EU businesses supplying electronic services. The scheme will now extend to both EU and non EU businesses and - in addition to electronic services - incorporate telecommunications and broadcasting services. It will allow suppliers to use a web portal in the Member State in which they are identified to account for the VAT due in other Member States on supplies of these services to private consumers.

To ensure legal certainty, clear and binding rules are needed on the application of this new scheme. The current provisions of implementing rules to the VAT directive (Council Regulation EU/282/2011) therefore need to be amended to this effect.

For the full text of the Regulation, see:

http://ec.europa.eu/taxation_customs/taxation/vat/key_documents/legislation_proposed/index_en.htm

http://europa.eu/rapid/pressReleasesAction.do?reference=IP/12/17&format=HTML&aged=0&language=EN&guiLanguage=en

4.2. Updates to HMRC Manuals

HMRC has updated the following manual:

• VAT and the single market www.hmrc.gov.uk/manuals/vatsmanual/VATSM3350.htm - updating the discussion of VAT issues around supply and acquisition and the Court of Justice of the European Union (CJEU) decision in Facet Holding BV (C-539/08). An acquisition can also take place in the UK without the goods having been removed here. This can arise under VATA s13(3) in cases where a UK VAT registration number has been used to secure a zero-rated supply in the Member State of departure, but where the goods go directly to another Member State. By making the place of acquisition the UK it ensures that acquisition tax is accounted for under what is known as the 'fall-back' arrangements set out in Article 41 of the Principal VAT Directive. The Facet case determined that VAT accounted for under these arrangements cannot be reclaimed as input tax in the country of acquisition where the goods have not been removed to the UK.

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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