UK: Weekly Tax Update - Monday 13 February 2012

Last Updated: 20 February 2012
Article by Richard Mannion

1. Private Clients

1.1. US Foreign Account Tax Compliance Act (FATCA)

The Government has issued a joint statement with the Governments of France, Germany, Italy, Spain and the United States, setting out an agreed approach to the US "FATCA" legislation, which aims to combat crossborder tax evasion. This focuses on an intergovernmental approach to information exchange, which addresses certain legal difficulties and compliance burdens that would otherwise arise for financial institutions affected by FATCA.

In 2010 the United States enacted provisions commonly referred to as the Foreign Account Tax Compliance Act (FATCA), which introduce reporting requirements for foreign financial institutions (FFIs) with respect to certain accounts. France, Germany, Italy, Spain and the United Kingdom are supportive of the underlying goals of FATCA. FATCA, however, has raised a number of issues, including that FFIs established in these countries may not be able to comply with the reporting, withholding and account closure requirements because of legal restrictions. Because the policy objective of FATCA is to achieve reporting, not to collect withholding tax, the United States is open to adopting an intergovernmental approach to implement FATCA and improve international tax compliance.

The possible framework for the intergovernmental approach is for:

1. The United States and a partner country (FATCA partner) would enter into an agreement pursuant to which, subject to certain terms and conditions, the FATCA partner would agree to:

  • Pursue the necessary implementing legislation to require FFIs in its jurisdiction to collect and report to the authorities of the FATCA partner the required information;
  • Enable FFIs established in the FATCA partner (other than FFIs that are excepted pursuant to the agreement or in US guidance) to apply the necessary diligence to identify US accounts; and
  • Transfer to the United States, on an automatic basis, the information reported by the FFIs.

2. In consideration of the foregoing, the United States would agree to:

  • Eliminate the obligation of each FFI established in the FATCA partner to enter into a separate comprehensive FFI agreement directly with the IRS, provided that each FFI is registered with the IRS or is excepted from registration pursuant to the agreement or IRS guidance;
  • Allow FFIs established in the FATCA partner to comply with their reporting obligations under FATCA by reporting information to the FATCA partner rather than reporting it directly to the IRS;
  • Eliminate U.S. withholding under FATCA on payments to FFIs established in the FATCA partner (i.e by identifying all FFIs in the FATCA partner as participating FFIs or deemed-compliant FFIs, as appropriate);
  • Identify in the agreement specific categories of FFIs established in the FATCA partner that would be treated, consistent with IRS guidelines, as deemed compliant or presenting a low risk of tax evasion;
  • Commit to reciprocity with respect to collecting and reporting on an automatic basis to the authorities of the FATCA partner information on the U.S. accounts of residents of the FATCA partner.

3. In addition, as a result of the agreement with the FATCA partner described above, FFIs established in the FATCA partner would not be required to:

  • Terminate the account of a recalcitrant account holder;
  • Impose passthru payment withholding on payments to recalcitrant account holders;
  • Impose passthru payment withholding on payments to other FFIs organized in the FATCA treaty partner or in another jurisdiction with which the United States has a FATCA implementation agreement;

4. The United States, France, Germany, Italy, Spain and the United Kingdom would:

  • Commit to develop a practical and effective alternative approach to achieve the policy objectives of passthru payment withholding that minimises burden.
  • Commit to working with other FATCA partners, the OECD, and where appropriate the EU, on adapting FATCA in the medium term to a common model for automatic exchange of information, including the development of reporting and due diligence standards.

1.2. Entrepreneurs' relief – practical issues

ICAEW Tax Faculty issued a Tax guide in February 2012 covering a number of technical queries on the operation of Entrepreneurs' Relief (ER) that were put to HMRC through the Capital Gains Tax Liaison Group. This note reflects the queries in section A (General queries) and HMRC's responses.

It is understood that the HMRC guidance on ER (which can be found at CG63950 et seq of the Gains Manual) will be extended to cover most, if not all, of the issues raised in this guidance.

All references are to TCGA 1992 unless otherwise noted.

EXAMPLE A1 – Aggregation issues: determining the quantum of the qualifying gain (1)

CG64120 of the HMRC Capital Gains Manual deals with the aggregation of qualifying ER gains and losses (as per s 169N, TCGA 1992) made on the disposal of various assets comprising a business. However, the guidance does not consider cases where assets are disposed of in different tax years. How does HMRC consider that the ER provisions should be applied in such cases?

Does HMRC consider that the aggregation provision could relate to disposals of shares over different tax years?

HMRC response to Example A1

We have no experience of actual cases which involve a disposal, of the whole or part of a business, which is made up of separate disposals that occur in different tax years. At present HMRC is unwilling to speculate as to how a particular fact pattern might be most appropriately treated.

As regards shares disposed of over different years, each separate disposal will constitute a separate material disposal for the purposes of s 169I(1) and no aggregation under s 169N(1) is necessary. HMRC is not of the view that aggregation applies to shares and securities of one company that are disposed of in separate transactions.

EXAMPLE A2 – Aggregation issues: determining the quantum of the qualifying gain (2)

HMRC was asked to comment on the following example and whether it would accept that in this situation the disposal of all the assets of a business would not necessarily constitute one qualifying disposal for ER.

A lawyer who operated as a sole trader may sell his business to a larger law firm, disposing of all assets apart from the long lease he has on the business premises (the purchaser did not intend to use the premises so did not want to acquire the asset). He might separately manage to negotiate the sale of the lease to another purchaser. The profit on the sale of the aggregate business assets acquired by the large law firm may be £950,000 with a loss of £75,000 on the lease. As the two disposals are totally separate we would argue that the loss on the sale of the lease should not be aggregated with the profit on the sale of the business.

As such the special 10% ER rate should apply to the whole £950,000 and if the individual had non-ER qualifying gains in the tax year the loss on the sale of the lease could be set against these gains in preference to the qualifying ER gain. Can HMRC confirm that it agrees with this analysis?

HMRC response to Example A2

The legislation which defines relevant business assets, relevant gains and relevant losses for the purposes of quantifying the amount of relief is s 169N, TCGA 1992. The key issue is whether the disposal of the long lease is comprised in the qualifying business disposal (ie the disposal of the sole trader's business).

It is difficult to see how the disposal of the long lease in the query is not an inherent part of the disposal of the sole trade business. In particular, HMRC does not consider the fact that the lease is disposed to a third party is sufficient by itself to show that the disposals are "totally separate" as the query suggests.

Where someone wishes to assert that the disposal of an asset, such as the long lease in the query, is not comprised in the qualifying business disposal, that point will be a question of fact for which the individual would need to provide a clear explanation and evidence to support their contention.

EXAMPLE A3 – The s 28, TCGA 1992 problem

Section 28, TCGA 1992 specifies that where an asset is disposed of under an unconditional contract the time when the disposal is deemed to take place is the time the contract is made, not the time the asset is conveyed or transferred.

For ER purposes, taken literally this can cause a significant problem. Commercially it is not always possible for the trade to cease on or before the date the contract is made, but it is a condition to qualify for ER that the trade must have ceased before the disposal occurs. This affects both individuals (s 169I(4)) and trustees (s 169J(5)).

HMRC response to Example A3 (January 2010)

Both s 169I(4) and s 169J(5) contain the condition that the individual or beneficiary ceases to carry on the business on or before the date of disposal of the asset used in that business. However, it is possible that where a business property is sold under a contract the beneficiary continues to use the property to trade from for a period after the date of the contract. Section 28, TCGA 1992 determines that the date of disposal is the date of the contract, so the disposal for CGT purposes happens before the cessation.

We believe that in such cases, where there is a genuine business disposal linked to a genuine business cessation, ER should not become unavailable where the strict application of s 28 determines the date of disposal to be before the date of cessation.

Further example provided to HMRC for comment

In connection with a material disposal of business assets, consider a sole trader where a contract for the sale of a shop (from which a retail trade had been carried on) had been concluded on 30 June 2009 with entry on 1 September 2009, and the trade had ceased on 31 July 2009. Does HMRC agree that ER will apply to the disposal of the shop and "business" (goodwill) as if it were a single disposal?

HMRC response (June 2010)

Where a business property is sold under a contract and the individual continues to use the property to trade from for a period after the date of the contract, s 28 will determine that the date of disposal is the date of the contract. In this case the disposal for CGT purposes will happen before the cessation. If the facts indicate there is a genuine business disposal linked to a genuine business cessation, ER should not become unavailable where the strict application of s 28 determines the date of disposal to be before the date of cessation.

Query following HMRC's comment on the example put forward

It is unclear from this response whether HMRC considers that the sale of the property on 30 June 2009 in the example qualifies for ER under s 169I(2)(a) or s 169I(2)(b). Section 169(I)(4) provides that a disposal within s 169(I)(2)(b) is a material disposal if the conditions in sub-sections 4(a) and (b) are fulfilled. The disposal of the property falls outside the three year period in s 4(b).

Does HMRC consider that the disposal of the property on 30 June 2009 therefore falls within s 169I(2)(a)? Assuming that is the case, the gains and losses from the two disposals under s 169I(2)(a) comprising the same business would be aggregated in accordance with s 169N with the same potential aggregation issues arising as noted in Example A1 above.

HMRC further response

The scenario set out was understood to seek comfort in relation to ER in the absence of an Extra-Statutory Concession which was previously available under the old retirement relief legislation. This was given on the basis that there was a genuine linked business disposal. However, were the disposals separated then whether each would fall within s 169I(2)(a) or (b) would of course very much depend upon the facts and compliance with the legislative conditions.

Author's note

The HMRC responses through the CGT Liaison group are consistent. However, the ICAEW Tax Faculty received a different response from HMRC when we raised a similar question in late 2009 in respect of trustees (as part of our quarterly meeting on IHT and trust tax issues). The response provided then was that ER would be forfeited where trading continues after exchange of contracts when a business is sold by trustees. The issue and this response are in TAXline (September 2009, practical point 186).

The disparity between the responses has been brought to the attention of HMRC and we have been told that the current HMRC settled view is reflected in the responses received through the CGT Liaison Group set out here. It is understood that HMRC does not consider this to be a concession but rather a purposive interpretation of the legislation.

EXAMPLE A4 – Disposal of whole or part of a business

Consider a farmer who sold four fields (10 acres) in which oilseed rape was grown. This crop was not grown elsewhere on the farm before the sale and is not grown elsewhere after the sale because of soil conditions.

Does HMRC consider that this sale would amount to a disposal of "part of the business"?

HMRC response to Example A4

A number of cases were heard in respect of the old retirement relief as to what the meaning was of the disposal of part of a business. The legislative language for ER mirrors those conditions so HMRC believes the earlier cases are likely to be persuasive for this reason.

CG64015 onwards discusses a number of these cases and rather than comment on the situation you set out above I would highlight that CG64035 draws together the various points that case law teaches us, it is then in this context, and only with knowledge of all the relevant facts, that a judgement can be made as to whether the disposal constitutes a distinct part of the business or simply of assets sold out of a continuing business.

Author's note

Members should therefore proceed with great caution where there is any suggestion that the disposal taking place might not amount to a part disposal of the business, paying particular attention to the decision in McGregor v Adcock and related cases.

EXAMPLE A5 – Interaction with other reliefs – pre 23 June 2010 disposals

For pre-23 June 2010 disposals there is agreement that ER takes priority over EIS CGT deferral relief and that business asset rollover relief takes priority over ER relief. There are, however, mixed opinions about the order of priority between (1) ER and gift holdover relief (ie both s 165 and s 260 of TCGA 1992) and (2) ER and incorporation relief.

HMRC's settled view (which is not universally accepted) is that gift holdover relief has priority over ER relief (see CG64137of the HMRC Capital Gains Manual) and that incorporation relief also has priority over ER.

HMRC's view on the order of priority between incorporation relief and ER is not explicitly stated.

When asked to confirm its position HMRC stated its view as follows:

"CG64136 clearly states how ER interacts with rollover reliefs and CG64137 deals similarly with deferral reliefs. Section 162, TCGA 1992 (incorporation relief) is a form of rollover relief and the principle is that ER is only available on any part of a gain that remains after any rollover (or for that matter deferral) has been made."

EXAMPLE A6 – Qualifying periods of ownership: different rules for individuals and trustees

The general rule is that for a disposal to qualify for ER the specific conditions applying to the asset category must have been met for a period of at least one year.

For individuals, depending on the nature of the disposal, the conditions under s 169I must be satisfied in the one-year period ending with the date of disposal or of cessation of the business (provided this date of cessation is within the period of three years ending with the date of the disposal).

For trustees the relevant timing provision in s 169J(4) is more flexible and may apply for a wider time period. It allows the qualifying period during which the relevant conditions must be satisfied to be a period of one year ending not earlier than three years before the date of the disposal.

HMRC response to Example A6

The wider time period available to trustees recognises (in broad terms) that trustees may not have the same scope to determine when they dispose of their business assets as the qualifying individual would. We are not aware of any problems arising in practice from the distinction.

EXAMPLE A7 – The 5% rules and dilution on the day of sale

Consider the following situation (assume that all other conditions for ER are satisfied):

Shareholder X holds 5% of the ordinary share capital in a company and has done so throughout the period of at least one year up to the date of the sale of the entire share capital of the company.

There are holders of share options who intend to exercise their rights and acquire shares on the date of sale shortly before taking part in and signing the contract for sale.

The contract for sale is entered into on, say, 12 noon on the day of sale. By virtue of the exercise of the options earlier in the day, at the time of disposal (ie signing of the contract) X will hold less than 5% of the ordinary share capital of the company.

Does X fail to meet the conditions of s 169I(6)? It has been posited that were the day of the sale to be included within the interpretation "throughout the period ending with the date of disposal", it would be impossible for any individual to meet the qualifying criteria for ER, as during the course of that day they would no longer meet the conditions under s 169I(6), ie once the contract for sale had been signed.

A possible view is that "throughout the period ending with the date of disposal" ends on midnight the day before the sale and therefore excludes the actual day of sale. X would therefore qualify for ER on the basis that he had met the conditions of s 169I(6) at that time.

HMRC response to Example A7

The direct application of the statute, without need for interpretation of the words of that statute, provides the answer to the query.

We do not consider that the legislation for ER can be read as making any division of a day on a minute by minute (or second by second) basis. In particular it does not require an interpretation that the statute must read as "throughout the period ending with the date of disposal" ends on midnight the day before the sale.

Assuming that X satisfies all the other conditions for the relief, it is clear that X would not be ineligible from claiming ER on the disposal of his shareholding solely by virtue of the exercise of options earlier in the day on which he disposes of his shares and the exercise of options results in his ownership and voting rights dropping below the critical 5% threshold.

EXAMPLE A8 – Interaction of ER and temporary non-UK residents (s 10A, TCGA 1992)

An individual owns shares in a UK trading company (which qualify for ER). He moved/located overseas to expand the business.

The overseas business failed. An offer has been made to acquire his shares. Although the sale should take place when he is non-UK resident there is a possibility that he may be caught by s 10A, as he may return to the UK approximately four years after he left.

The issue is whether ER will still be available on the chargeable gain.

Technical tax analysis put forward for HMRC comment;

Under s 10A, TCGA 1992 the gain will be treated as accruing to a taxpayer in the year of return. The view taken is that the original disposal date applies for ER purposes. As s 169M requires an election for ER to be made before the first anniversary of 31 January following the tax year in which the disposal takes place, it is likely that the individual will be out of time in making an ER claim if he waits until he has resumed UK residence. The advice is therefore to make a protective claim.

It would seem that exactly the same principle would apply to a UK-resident foreign domiciliary who is taxed on the remittance basis. A disposal may occur in an early year on which ER would need to be claimed (albeit the gain was not yet taxed on the individual as it was not remitted). However, if the individual remitted the gain several years later, but no protective ER claim had been made for the actual year of disposal, no ER deduction could be made in the computation in this later year.

HMRC response to Example A8

ER is only available on the making of a claim and such claim must be made within the statutory time limit which is set by reference to the date of the qualifying disposal (see s 169M(3), TCGA 1992). It is for the taxpayer to consider whether to submit a protective claim for ER within this time period.

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Richard Mannion
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